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Letting Bush Tax Cuts Die Would Kill Recovery: Analysts

The nascent US economic recovery would be halted in 2011 if Congress fails to extend the Bush tax cuts for the wealthiest Americans, analysts at Deutsche Bank said.

US Capitol Building with cash
US Capitol Building with cash

The cuts were enacted in 2001 and 2003 under President George W. Bush and in part covered those earning more than $250,000, but they are set to expireat the end of this year. Tax decreases for lower-earning people likely will be continued, but the ones for the top end of the income scale are in danger of going away.

Deutsche said the drag on gross domestic product should they lapse could be as much as 1.5 percent, with the more likely impact at 1.1 percent.

The impact would be worse, the analysts said, if Congress fails to fix the Alternative Minimum Tax, which was enacted in 1969 to make sure rich people pay taxes but was never indexed for inflation, and thus is now hitting middle-income workers.

"In a worst-case scenario, allowing the Bush tax cuts to expire and failing to fix the AMT could result in (1.5 percent) of fiscal drag in 2011 on top of the 1 percent fiscal drag we expect to occur as the Obama fiscal stimulus package unwinds," Deutsche said in a note to clients. "If the recovery remains soft/tentative through early next year, this additional drag could be enough to push the economy to a stalling point."

The opinion runs counter to that of Treasury Secretary Timothy Geithner, who said earlier this week that allowing the cuts to expire would not cause the economy to re-enter recession. The administration has proposed letting most of the tax cuts stand, but eliminating the ones for the top-tier earners.

Deutsche compared the situation to Japan in the 1990s, when the government let tax cuts expire and cut stimulus, leading to another leg down in the recession and ensuring the nation's "lost decade" of no economic growth.

While the US is headed toward unmanageable debt levels, now is not the time to start tightening the money supply, the analysts said.

"As soon as the economic recovery does look reasonably well entrenched, indeed, preferably even sooner, plans will need to be made to begin to put the US fiscal position on a more sustainable course," Deutsche said.

"As we have noted, this is not going to be an easy process politically, and it may well take a significant negative event in financial markets to steer the US political system to do what needs to be done."

Clarification: An earlier version of this story failed to state that the Bush tax cuts covered more than just those earning more than $250,000.

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