FISCAL CLIFF: What's a fiscal cliff and why's it called a fiscal cliff?
- From: news.com.au
- December 31, 2012
- The 'fiscal cliff' explained, mostly by Mr Burns
- We break it down, tax cut by tax cut
- On Twitter: Chris Paine
FISCAL Cliff sounds like a banjo player who would have opened for Elton John in 1981. But the global economy's term du jour is serious business.
Everything you've watched, read, and listened to in the last two months has mentioned the term "fiscal cliff" at least seven times.
It's an American problem, which means it's essentially a global problem, so we've done some background research to explain what the hell a "fiscal cliff" even is.
Let's get started.
1. We'll ease into this softly. It's called a cliff, sure, but we don't have to fall off it just yet. Here, we'll let Charles Montgomery Burns explain:
2. Why is it called a "fiscal cliff"? Fiscal means "of or pertaining to the public treasury or revenues" and cliff means "a high steep face of a rock".
3. At the simplest level, there are a lot of spending cuts and tax hikes that will come into effect at midnight December 31. Many people are worried that if they all take place at once the US economy will slide into recession. So if it's going to be such a disaster, why are all the changes coming into effect at once?
4. It boils down to this: the US is in a lot of debt. It makes about $US2.3 trillion a year but spends about $US3.6 trillion. So, somehow, it has to slash $1.3 trillion. But if all the scheduled changes happen together, the Congressional Budget Office is predicting GDP will drop by 0.5 per cent next year, plunging the US into recession and meaning the unemployment rate will rise to 9.1 per cent. That means a loss of about two million jobs. Like we said - this can't be good.
5. There are two major changes planned:
a) A big cut in government spending. Military spending will take the biggest hit with about half of the cuts coming from defence, federal programs will also lose $US65 billion, $US26 billion will be slashed from emergency unemployment payments and Medicare payments to doctors will be docked by $US11 billion;
b) A whole lot of tax cuts will end. The biggest ones are the 2001 Bush tax cuts which were put in place to stimulate the economy. The end of them means basically everyone in the US will pay more tax. The top tax rate will rise from 35 per cent to 39.6 per cent and Social Security (welfare) taxes will also go from 4.2 per cent to 6.2 per cent. Another tax cut set to end is Obama's "payroll tax holiday", which added about $1000 a year to the average employee's income.
6. It's time to take a quick breather from all this tax talk. Let's watch Homer Simpson chase two squirrels around a tree:
7. We're nearly there. Focus. OK, so. Back to the taxes: the Alternative Minimum Tax, a flat tax on very high earners, will also run out. At the moment it applies to just four million people, but come next year it will apply to 32 million people, meaning a lot of middle-class earners will suddenly find themselves paying this tax.
Another stimulus, the American Recovery and Reinvestment Act of 2009, is also set to end. This means tax breaks such as a higher education credits, homebuyer credits and child tax credits will go back to their pre-2009 levels.For example the child tax credit will be reduced from $1000 to $500.
8. What are the Democrats and Republicans planning to do about all this? Well, there is a lot of arguing. Republicans want to slash spending but avoid raising taxes. Democrats are looking for more of a compromise between the two.
9. The fiscal cliff is the first great challenge in the second term of newly re-elected President Barack Obama. Click here to read more about how he put Mitt Romney in a binder (binder? I just met her!).
10. What happens now? There are three main options that can be taken, according to about.com.
a) They can let all the planned changes come into effect.
Downside: The US will go into recession and unemployment will spike.
Upside: The US deficit would be cut in half.
b) They can cancel some or all of the tax hikes and spending cuts.
Downside: The US's debt will keep growing.
Upside: The US will avoid facing an economic crisis that is currently happening in Europe.
c) They can agree on a middle ground.
Downside: Given all the fighting (and the fact that both parties have had years to address the problem) it is seeming unlikely.
Upside: It would address all the issues (albeit to a much more limited extent).
11. Congratulations. You made it. The latest news is that talks between The White House and Congress over a compromise are frozen. Yikes. That's no good. But let's look at the positive: you can now accurately explain a "fiscal cliff" to your Facebook friends and Twitter followers. And tell them why it's called a fiscal cliff.