Commentary | Budget, Taxes, and Public Investment

Don’t call it a fiscal cliff

This piece originally appeared in the Detroit Free Press

The so-called “fiscal cliff” of legislated spending reductions and expiring tax cuts scheduled for 2013 is dominating headlines, debates and Washington gamesmanship.

If the scheduled spending cuts and expiring tax cuts fully take effect in 2013, the reduction in government and household spending is projected to push the economy into an austerity-induced recession, as the United Kingdom has experienced.

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Fundamentally, the fiscal cliff exposes that big budget deficits and rising public debt have been sustaining the economic recovery, and the pace of deficit reduction must now be slowed to keep the economy growing.

Focusing resolution of the fiscal cliff on sustaining economic recovery and job creation is especially important in regions of the country that have been hit particularly hard by the Great Recession. The huge shortfall in demand following the housing bubble’s collapse has left a gap of roughly 9 million jobs needed to restore full employment.

Even though the pace of job creation has recently accelerated, at the current rate, the Great Recession’s jobs crater won’t be filled until 2020, and perhaps longer in especially hard hit states such as Michigan. Clearly, more economic support is needed.

Examining the cliff through the lens of job creation, however, makes clear that “cliff” is a terrible metaphor because it implies a binary choice. It’s more accurate to think of the pending choices as an “obstacle course” because there are numerous separable options, each of which should be weighed on its budgetary cost versus its economic impact.

When talking about the “cliff,” policymakers and the media have largely focused on the expiring Bush-era tax cuts and pending automatic “sequestration” spending cuts, but these account for less than a third of the economic drag scheduled for 2013.

In reality, the expiration of the remaining fiscal stimulus—notably the payroll tax cut and emergency unemployment benefits—poses the biggest threat to growth. And the upper-income Bush-era tax cuts and estate tax cuts do the least to support job creation and most starkly fail cost-benefit analysis. Ending those tax cuts would produce $1.2 trillion in revenue over the next decade.

Because it’s not an either-or choice, my colleague Josh Bivens and I recommend a mix of policies that would boost economic growth by 1.7 percentage points and generate more than 2 million jobs in 2013 while, at the same time, reducing the 10-year budget deficit by $651 billion. To do this, we propose a balanced approach of using half the revenue from rolling back these recent tax cuts for upper-income households (earning above $250,000 annually) to finance near-term job-creation policies while using the other half as a down payment on long-term deficit reduction.

Broadly speaking, job creation and deficit reduction are at odds in the near term.

It makes sense to increase near-term budget deficits to prioritize jobs, whereas it only makes sense to shrink budget deficits later in the decade if the economy is much stronger. A rapid return to full employment and sustained economic recovery should be the highest priority—one that should not be conditional on negotiating a bipartisan deficit reduction “grand bargain”—but we assume any stimulus will be pared with longer-term deficit reduction in a nod to political likelihood.

The $600 billion in near-term economic support should finance emergency unemployment insurance benefits, aid to state governments, investments in surface transportation infrastructure, rehiring teachers and modernizing schools, as well as a temporary targeted tax rebate—all effective policies for spurring job creation. Critically, our policies would slow the pace of deficit reduction over the next three years, thereby avoiding another “cliff” in 2014.

Our blueprint’s recommendations are weaker medicine than what is needed for a rapid return to full employment, but it would accelerate recovery while meeting the misguided political constraint that near-term economic support be paired with longer-term deficit reduction.

By thinking of these decisions as a series of choices instead of an all-or-nothing “cliff,” it’s possible to advance the agreed upon top priority of accelerating recovery by jettisoning economically ineffective measures in favor of those most supportive of jobs. Replacing the upper-income Bush tax cuts with effective job-creation measures would most effectively reorient fiscal policy to prioritize near-term job creation while improving long-term fiscal sustainability.

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