The details of the possible "fiscal cliff" compromise — at least as being widely reported out of Washington, D.C. — are better than expected.
While the Republicans appear willing to surrender on their longstanding battle against raising tax rates, in exchange they appear to have won permanence for the tax rates on income below $450,000. This is a real accomplishment both economically and strategically.
The economics of making the tax cuts permanent are straight-forward enough. The temporary nature of the tax cuts passed under the Bush administration have always been a handicap to their impact on encouraging economic growth. Households were forced into saving against the day when earnings would be depleted by scheduled higher taxes. Ending this long regime of tax uncertainty should help spur growth.
Strategically, it is a victory against those who want much higher rates that stretch much further down into the income of American households. It will no longer be possible to hike the taxes on a middle class family in an expensive city while claiming to be going after the earnings of billionaires. It will no be harder for Democrats to argue that they absolutely need to hike the taxes on families earning $250,000 or lower. In short, we're far better off when the dividing line is $450,000 than $250,000.
What makes this so pleasantly surprising is that it really did seem as if the Republicans would walk away with far less. Obama once said that he just wouldn't negotiate over the expiration of the Bush tax cuts for incomes over $250,000. In a few hours from now, taxes were scheduled to dramatically rise on anyone. At that point, Republicans would have felt a lot of pressure to agree to any deal that reduced taxes from the Full Cliff. Getting a $450,000 may very well have been out of the question at that point.
That said, it should not be overlooked that, in the words of Paul Krugman, there are "no spending cuts at all." This means that the Obama administration has succeeded in undermining a crucial part of the deal that led to the raising of the debt ceiling in the summer of 2011: that any tax hikes would be pared with spending cuts. That deal pushed off the details until—well, until now—but created an automatic mechanism to force both if no deal was reached.
The lesson in the fiscal cliff deal is that bipartisan agreements that involve tax hikes and spending cuts at some point in the future wind up including only tax hikes. Tax hikes become inevitable; the spending cuts get negotiated away altogether.
If Republicans and Democrats on Capitol Hill learn this lesson, it could make the debt ceiling fight scheduled to begin in the next few weeks even more brutal. Republicans will know they cannot count on any deals that promise future spending cuts. As a result, they will likely demand that Democrats support immediate spending cuts—which just is not going to happen. So this deal is probably a huge setback for the chances of a debt ceiling compromise.
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