11/16/12 – Fiscal Cliff Negotiations Start Today

Posted by Brad McMillan, CFA, CAIA, MAI

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This entry was posted on Nov 16, 2012 8:43:48 AM

and tagged Fiscal Cliff, Politics and the Economy, Yesterday's News

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Today, President Obama and Speaker Boehner, along with their teams, will sit down at the White House to try and figure out how to solve this thing. Encouragingly, everyone seems to be shutting up.

The last time we went through something similar, with last year’s debt ceiling debacle, multiple players weighed in at different times and disrupted the process. This time around, the lesson seems to have been at least somewhat learned.

The New York Times has a good article on page A20, “Senate ‘Gang of 8’ Says This Isn’t Its Moment in Deficit Talks,” in which several members essentially say that they’re staying out of the way of the talks that matter, between Boehner and Obama. The White House is staying mum on its Cabinet nominations (see “White House gives few clues on makeup of next cabinet,” on page 6 of the Financial Times), avoiding any potential offense or negative implications of the new picks before trying to cut a deal.

The principal players here, Obama and Boehner, seem to have learned lessons as well. “Less Tension This Time for Obama, Boehner” on page A5 of the Wall Street Journal (WSJ) details what’s changed since the debt ceiling negotiations. Politically, the 2012 elections are perceived to have strengthened the Democrats’ hand, but Boehner has more experience managing the Republicans now and has passed major bipartisan budget bills in the past year over conservative objections. Both men are conscious of the risks of failure and have reportedly been chastened by the way the previous negotiations first played out and then failed.

We will see. I listened to a conference call by a panel of political experts yesterday that was discouraging. Based on that, the news of the past week, and my own analysis, I see the following key points:

First, the new Congress has greater numbers of Democrats in both houses. For the Senate, this is an absolute reverse over what was expected a year ago, reflecting serious underperformance by the Republicans against expectations. In the House, Democrats have picked up several seats and may, when all’s said and done, pick up several more—again, serious Republican underperformance against expectations. Because of this, as well as the president’s reelection in the current economic environment, the Democrats do feel that they have a mandate, and this will make them less willing to compromise.

Second, on both sides, the moderates either retired or lost. The new Congress will have fewer moderates to craft deals and vote with the other side, a necessity given that neither side has control. This will make negotiating a deal, not to mention enacting one, much more difficult. The poster child for this position can be seen in the last paragraph of the WSJ article mentioned earlier. In it, a Republican freshman Congressman, who ran unopposed, is quoted as saying, “I have no reason to compromise.”

Third, because of point one, the Democrats are more committed than ever to raising taxes on “the rich.” Obama has doubled down on this in recent days, and he seems to feel that the election results will give him the push he needs to make it happen. He is also apparently planning to take it to the public in order to put more pressure on the other side.

Fourth, while the Republicans in Congress have possibly indicated more flexibility, their core voter base is more focused on taxes than anything else. Thus, they may be politically unable to comply with what the President is demanding without essentially committing political suicide. As mentioned above, the moderates largely lost, so the remaining members have an ideological commitment, which will be enforced by their voters, to stay anti-tax.

All of this brings us back to the start of the negotiations today. If both sides can focus on the goal—to craft an agreement that solves the country’s problem—and stay away from trying to crucify the other side by imposing conditions that are politically impossible, a deal should be doable. A plan that calls for stable tax rates and lower deductions rather than higher tax rates, for example, appears to be a possible solution.

Both sides have an incentive to reach agreement. Democrats don’t want the spending cuts; Republicans don’t want the reversion to Clinton-era tax rates. Neither side wants the recession that the fiscal cliff would cause.

Let’s see if good sense will prevail.

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