Fear not the fiscal cliff!

The so-called “fiscal cliff” is the confluence of three separate legal events on January 1, 2013: expiration of a temporary payroll tax cut, expiration of the so-called “Bush” income and estate tax cuts enacted in 2001 and 2003, and mandatory spending cuts also known as “sequestration”.

Many commentators are expressing concern that unless Congress intervenes by January 1, the economy will suffer a serious setback. But I don’t think that’s the worst thing that could happen.

First, the expiration of the payroll tax cut is going to happen in any event. The payroll tax was lowered in 2011 and 2012 as a temporary economic stimulus. But there is bi-partisan agreement that the payroll tax should be restored to pre-2011 levels to adequately fund Social Security. No controversy here. Payroll taxes will increase in 2013.

The so-called “Bush tax cuts” of 2001 and 2003 were enacted as temporary responses to the economic recession triggered first by the collapse of the internet bubble and then the September 11 terrorist attacks. The Republican sponsors of those tax cuts agreed that they would expire at the end of 2010. As that deadline approached, and President Obama and congressional Republicans continued to argue over whose taxes should be allowed to go up, the President and his political adversaries agreed to extend the tax cuts for two more years, until the end of 2012.

President Obama campaigned on allowing the Bush tax cuts to expire for households earning $250,000 or more, but extending the tax cuts for households earning less than that amount. Republicans advocate making the tax cuts permanent for all taxpayers regardless of income, and also making permanent the elimination of the federal estate tax on decedent millionaires, which they call the “death tax”. Unless Congress acts, all the Bush tax cuts will expire on December 31, and both income and estate tax rates will be restored to the levels that applied before 2001.

As part of the 2011 agreement to increase the debt ceiling, Congress pledged to cut federal spending by $1.2 trillion over 10 years, with specific cuts to be determined by a joint select deficit-reduction “super committee”. To insure that the cuts would happen, Congress specified that if the super committee failed to designate sufficient spending cuts, and Congress failed to take any superseding action by December 31, 2012, those $1.2 trillion cuts would happen automatically, spread equally between defense and non-defense spending. These automatic, across-the-board spending cuts have been labeled “sequestration”.

Federal Reserve Chairman Ben Bernanke coined the worrisome phrase “fiscal cliff” to describe the consequences if Congress fails to act by December 31, and the Bush tax cuts all expire, and sequestration spending cuts begin. But that’s not the worst scenario.

The worst scenario would be for Congress to extend all the Bush tax cuts and repeal its commitment to cut federal spending by $1.2 trillion over 10 years. That worst case scenario would mean growth of the federal government’s $1 trillion annual budget deficit would continue to accelerate, and the now $16 trillion national debt would continue to expand in excess of gross domestic product, the total value of all goods and services produced in the U.S.

The political reality is that it’s very difficult for elected officials who want to be re-elected to either cut spending or raise taxes. But cutting spending and raising taxes are both needed to reduce the deficit and slow the growth of the national debt. It is both irresponsible and dangerous for us to burden future generations of Americans with the obligation to pay for our accelerating current spending.

It would be nice if Democrats and Republicans could get together and reach agreement on exactly how to reduce spending and raise taxes. But in the current gridlocked political environment, that seems to be a fantasy.

Anyone who recognizes that should understand that the so-called fiscal cliff is not so bad. Allowing all the Bush tax cuts to expire will raise everyone’s taxes, but only to the levels that applied during President Clinton’s administration when the economy was strong and expanding. Sequestration is a blunt instrument to reduce federal spending, but there does not appear to be a better way. Does anyone seriously doubt that there is tremendous unnecessary spending and waste which can and should be cut from the federal budget?

There’s nothing irrevocable about the fiscal cliff. Congress could act any time before or after January 1, 2013, to fine tune the already mandated spending cuts and tax increases.

Republicans deserve both the credit and the blame for making the Bush tax cuts expire and requiring spending cuts as a condition for increasing the debt ceiling. President Obama should be willing to allow those events to happen if that’s the only way to address our growing deficit and national debt. He will be in a stronger position after January 1, to make a better and fairer deal than he could negotiate this year.

And if he can’t? Bring on the fiscal cliff!