Bush Tax Cuts to Debt Ceiling Debate

Rodney Johnson | Friday, January 11, 2013 >>


It’s common knowledge that the Republicans got spanked in the fiscal cliff negotiations.

As the expiration of the Bush tax cuts loomed, the Republicans made a lot of pre-election noise about not allowing taxes to rise on anyone at all. Then, after the election, the number went from “no one” to “only those making over $1 million per year.” In the final hours of post-election negotiations, the conservative group caved in and agreed to higher income taxes for those making more than $400,000 for single filers and $450,000 for joint filers.

There are a lot of small details I’m not covering here, but this is the general idea of how Republicans fell apart in their negotiations…

Or did they?

In the tax rate debate Republicans and Democrats showed up to the fight with unequal bargaining power.

The Democrats have a majority in the Senate, while the Republicans can filibuster that chamber. And the Republicans hold the House, which has no filibuster mechanism. Of course, the Democrats control the White House.

This merry-go-round is a bit lopsided, but it’s not the crux of the issue.

The real point is that if no agreement was reached, the Bush tax cuts would fully expire and bring higher rates to every single taxpayer. This across-the-board pain would have been exactly what the Republicans did not want to have happen… and it would have occurred in order to save “rich people” from paying too much.

That is an untenable bargaining position to start from, so the Democrats had leverage. If they did nothing, the Republicans would have been painted as the bad guy by every taxpayer. The fact that Republicans were able to hold out for higher rates only on those earning almost half a million dollars is something of a victory, as it affects less than 1% of taxpayers.

But now that the tax rate issue is “settled,” we face the debt ceiling debate…

From One Unwinnable Situation to the Next

In the young days of the country Congress would have to give its approval every time the country issued more debt. Naturally this became tiresome, so Congress began setting a level of debt beyond which the U.S. Treasury could not go without prior Congressional approval.

It’s kind of like the limit on your credit card. The U.S. has reached its debt ceiling dozens of times and Congress has always extended it higher.

But the last time this happened, in the summer of 2011, some Congressmen finally said, “Enough!” Following their constituents, they did not want to see more debt without some serious efforts toward spending reform.

This is what brought about the Simpson-Bowles Commission, which could not reach consensus on what spending reforms to present to Congress. This resulted in the sequestered spending cuts that were supposed to have automatically been enacted on January 1, but that have been put off for two months.

All the while, our level of debt has been creeping higher… inching toward the new debt level set in the summer of 2011.

Just before the end of last year, the U.S. once again maxed out its credit card. Through financial sleight of hand, the government can keep borrowing for about 75 days, but then, without having more debt authorized, it will have to shut down most operations.

And that is where the political leverage changes hands…

The Democrats could sit around and wait for the expiration of the Bush tax cuts to happen, because they knew the pain of higher taxes would be so severe, and so contrary to what Republicans want, it would force the Republicans to negotiate better terms.

Now, the Republicans can use the same tactic when it comes to spending. If the Republicans do nothing, then U.S. government spending will slow to a trickle, starving programs for cash. This tactic of “starving the beast” is exactly what many Republicans want, and is anathema to Democrats.

So just as the fiscal cliff debate seemed to be a game of brinkmanship with one side taking most of the arrows, the debt ceiling and spending cuts debate over the next two months should be the same thing, only with the roles reversed.

What this means for all of us as taxpayers and investors is that the news will most likely be filled with market-moving quotes and grandstanding. The president has a bully pulpit that can’t be matched, but the Republicans, particularly in the House of Representatives, have a big piece of leverage that can’t be diffused. The volatility surrounding this debate should be every bit as nerve wracking as what we saw at the end of 2012.

The final bit of leverage held by Republicans makes this even more interesting…

All revenue and spending bills of the United States must originate in the House of Representatives, so the Democratically controlled Senate can’t even bring up a bill for a vote. For anything to get done in this area, it must be something Speaker of the House Boehner and company want to see happen.

Very interesting…

And very dangerous.

Be prepared for the days ahead.


Rodney

 

 

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About Author

Rodney Johnson works closely with Harry Dent to study how people spend their money as they go through predictable stages of life, how that spending drives our economy and how you can use this information to invest successfully in any market. Rodney began his career in financial services on Wall Street in the 1980s with Thomson McKinnon and then Prudential Securities. He started working on projects with Harry in the mid-1990s. He’s a regular guest on several radio programs such as America’s Wealth Management, Savvy Investor Radio, and has been featured on CNBC, Fox News and Fox Business’s “America’s Nightly Scorecard, where he discusses economic trends ranging from the price of oil to the direction of the U.S. economy. He holds degrees from Georgetown University and Southern Methodist University.