Americans are fond of unrealistic new year's resolutions, especially regarding weight loss, and this year, Washington is in on the tradition. According to current law, the U.S. government has promised itself that it will slim the deficit by raising taxes by about $400 billion and cutting spending by tens of billions in 2013. This is the mother of all fiscal diet plans. It would shrink our budget shortfall so quickly that we'd fall into a short, sharp recession, according to the Congressional Budget Office.
Washington calls it the "fiscal cliff," a Ben Bernanke-ism (there is only one, thankfully) that refers to the suddenness of higher taxes and mandatory spending cuts. But, as we explained this morning, cliff is the wrong metaphor. There is no ledge. There is no plunge. There won't be a recession on January 1. Many Americans won't feel the spending cuts or even notice higher taxes for weeks.
So let's abandon topography and call it what it is. It's a Fiscal Fast.
Basically, U.S. debt has been gaining weight over the last few years, and for good reason. When the private sector pulled back, the public sector had to grow to fill the gaps in demand. Spending rose and tax revenue declined, both because people made less taxable income and because we added tax cuts on tax cuts to encourage spending. Fat deficits are bad for the future. But they're good for the moment. When borrowing money is easy, and GDP growth is under 2%, and unemployment is over 7%, deficits aren't your first concern. Your first concern is growth and jobs.
But the U.S. has scheduled a fiscal flash diet to begin on January 1, 2013, and as we near the end of 2012, there are regrets everywhere. Higher taxes and lower spending would starve the weak economy of much needed fuel. We won't fall on our face immediately. That's not how diets work -- even extreme fasts. Nobody says "No more lunches for me" and then suddenly drops to the floor clutching her stomach. Instead, the accumulating effect of less nourishment gradually grinds you to a halt. That's how it would be for the U.S. economy. The combination of higher taxes, lower spending, lost jobs in companies close to government, and stock jitters would weaken the economy until we finally stopped growing for a bit sometime in the late first or second quarter of 2013.
It's important that we get the metaphor right. If you think of this as a cliff, you imagine a hard deadline on December 31, after which we fall headfirst into some abyss. That would argue for a December deal, no matter how bad for either side. But there is no cliff, and there is no abyss. There's just an overly aggressive diet, foisted on us by a political system divided between two very different ideas of how we should collect and spend money, that will slowly emaciate the recovery in 2013. Right now, we don't need a deal, by any means necessary. We need the right diet for 2013.