Fiscal Cliff’ Poses Recession Risk

Fiscal Cliff’ Poses Recession Risk

WASHINGTON—The U.S. economy likely would slide into a “significant recession” next year if Congress doesn’t avert tax increases and spending cuts set to begin in January, the Congressional Budget Office said Wednesday.

But if they are postponed for at least a year, the federal government faces the prospect of a fifth straight year with a budget deficit greater than $1 trillion, the CBO said.

These dueling pressures came into sharp focus as the nonpartisan agency released its final budget and economic forecast ahead of the November elections.

The fight over how to address tax and spending policies has frozen Washington into political paralysis. And Democrats and Republicans aren’t expected to begin negotiating a way to avoid tax increases and spending cuts until after the elections.

The report was immediately seized on by the White House and presumptive Republican presidential nominee Mitt Romney, as the economy remains a top issue on the campaign trail.

“We can see what’s happening over in Europe…people have spent more than they have taken in year after year after year, borrowed more and more money, made promises they couldn’t fulfill, and finally something which had to end did end,” Mr. Romney said in Bettendorf, Iowa.

White House press secretary Jay Carney pointed the blame at House Republicans, saying they “have chosen to double down on the same failed policies that led to the economic crisis in the first place. They’re willing to hold the middle class hostage unless we also give massive new tax cuts to millionaires and billionaires—tax cuts we can’t afford that would do nothing to strengthen the economy.”

The CBO painted two starkly different scenarios for next year, depending on which path lawmakers take.

Under current law, the Bush-era tax cuts are scheduled to expire at year-end, raising tax rates on more than 100 million Americans. These tax increases, combined with roughly $100 billion in required spending cuts on military and other government programs, would shrink projected deficits from $1.13 trillion in the fiscal year ending Sept. 30 to $641 billion for the year that ends Sept. 30, 2013.

That would reduce the deficit from roughly 7.3% of the nation’s gross domestic product to roughly 4% of GDP, the CBO said, and the largest one-year reduction since 1969.

But as a consequence, the economy would contract at a projected annualized rate of 2.9% in the first half of 2013, and by 0.5% over the entire year. The unemployment rate would rise to 9.1% at the end of the year from just above 8% now, the CBO estimated.

If Congress were to postpone the tax increases and spending cuts, the deficit would shrink just slightly in the next fiscal year, to $1.037 trillion, or 6.5% of GDP. The unemployment rate at the end of 2013 would be 8%, a difference of roughly two million jobs from the other scenario, CBO said. The economy would grow by 1.7% over the year.

Democrats have advocated using a combination of tax increases on upper-income Americans and spending cuts in a number of programs to reduce the deficit over time. The White House has called for extending all of the Bush-era tax cuts except on the portion of income that tops $250,000 for families. The CBO estimated this change would boost tax collections $42 billion in 2013 and $824 billion over the next 10 years.

Many Republicans have called for extending all of the Bush-era tax cuts for at least another year and cutting spending on many programs. Mr. Romney has called for a one-year extension of all the tax cuts and has called for postponing spending cuts into next year, giving him time to develop his own deficit-reduction plan if he is elected.

A number of members from both parties have said Democrats and Republicans will have to compromise to reach a deal after the election, but so far party leaders have shown no willingness to do so.

Source: The Wall Street Journal