The Bright Side of Falling Off the Fiscal Cliff

Forget all the hysteria on TV -- going over the cliff would only bring on a brief, mild recession before the country returned to growth. In the meantime, it could set us up for a brighter economic future.

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(Reuters)

As 2012 sputters to a close, it wraps up with a yawning gap between widespread economic pessimism and the actual state of economic affairs.

Though consumer sentiment rebounded in the fall, it fell in December, amid relentless coverage of the impending fiscal cliff. Holiday spending was muted. Businesses, meanwhile, cite the unresolved negotiations in Washington as evidence of continued uncertainty and many have put new spending, hiring, or investment on hold. The media counts the days (and on some cable news channels, the minutes and the seconds) till we descend the fiscal cliff, adding to the general agitation.

Yet, every indicator of American economic activity has been strengthening. Stocks are up between 8 percent and 14 percent in 2012, depending on the index. Gross domestic product is increasing more than 2 percent a year; unemployment has fallen below 8 percent; wages are steady even as inflation is close to non-existent. Energy prices have declined, and home prices have increased. Debt burdens for American households are now at the lowest level in 29 years, giving the vast majority of consumers more flexibility in their spending.

None of this, however, is evident if you listen to rhetoric in Washington, commentary on Wall Street and buzz in the news. Prognostications instead have us going off the fiscal cliff (completely or at best partly) and then, according to the Congressional Budget Office, descending into recession, higher unemployment and assorted other problems.

Something has to give. Either the powerful trends of forward movement will be dashed to bits at the bottom of the fiscal cliff or the consequences of that plunge will be far less dramatic than feared. You can make a case for either -- but most are making the case for the negative.

That may come to pass, but it's less likely than supposed.

First, even the CBO isn't making an unequivocally negative case. If the government does nothing for the entirety of 2013 to offset the tax hikes and spending cuts mandated as of January 1, the CBO forecasts a recession of more than 1 percent in the first half of 2013 -- but then 2 percent economic growth in the second half, accelerating even more in 2014. Over a decade, these measures will likely reduce deficits by as much as $10 trillion. We are so focused on the short-term pain of this cliff that we haven't taken sufficient measure of the long-term benefits.

No, the indiscriminate cuts are not the best way to balance the budget. Unemployment benefits are not extended. So the tens of millions of people already stretched to the edge will see moderate tax increases. Needed government programs will also be trimmed.

Yet, as dysfunctional as Washington is, the chance of nothing being done to address this over the next months is close to zero. No Congress would likely welcome the reality of 12 million people with no income.

But much of the rest -- including reducing unnecessary defense spending and raising taxes on the wealthy -- are measures that need enacting and now look likely to be.

So here we have what is labeled a worst-case scenario -- going over the cliff -- that yields long-term advantages, with its worst features easily remedied.

And the larger backdrop? The U.S. economic system is in the middle of structural shift. Tens of millions of workers, mainly men, have lost competitive advantage to less-well-paid workers around the globe and also to robotics and information technology that has made many 20th -century jobs unnecessary.

Whether the United States emerges on the other side of that shift as a prosperous, service-oriented, entrepreneurial, innovative society is the question of our time.

The pessimistic view says that without a currency based on something tangible, such as gold, and an economy based on something tangible, like manufacturing, the future is bleak. But this assumes that the only viable system is the one we had and that no possible alternatives could evolve.

Presented by

Zachary Karabell is Head of Global Strategy at Envestnet, a financial services firm, and author of The Leading Indicators: A Short History of the Numbers that Rule Our World. More

At River Twice Research, Karabell analyzes economic and political trends. He is also a senior advisor for Business for Social Responsibility. Previously, he was executive vice president, head of marketing and chief economist at Fred Alger Management, a New York-based investment firm, and president of Fred Alger and Company, as well as portfolio manager of the China-U.S. Growth Fund, which won a five-star designation from Morningstar. He was also executive vice president of Alger's Spectra Funds, which launched the $30 million Spectra Green Fund based on the idea that profit and sustainability are linked. Educated at Columbia, Oxford, and Harvard, where he received his Ph.D., he is the author of several books, including Superfusion: How China and America Became One Economy and Why the World's Prosperity Depends on It (2009), The Last Campaign: How Harry Truman Won the 1948 Election, which won the Chicago Tribune Heartland Award, and Peace Be Upon You: The Story of Muslim, Christian, and Jewish Coexistence (2007), which examined the forgotten legacy of peace among the three faiths. In 2003, the World Economic Forum designated Karabell a "Global Leader for Tomorrow." He sits on the board of the World Policy Institute and the New America Foundation and is a member of the Council on Foreign Relations. He is a regular commentator on national news programs, such as CNBC and CNN, and has written for The Wall Street Journal, Newsweek, Time, The Washington Post, The New Republic, The Los Angeles Times, The New York Times, and Foreign Affairs.

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