What just happened.

I sense some confusion both on the left and the right about the fiscal deal that just passed Senate and the House. Some people are asking me: is it good or bad and who won? The palpable consensus though is that neither side is happy about it.

Because many do not follow the fiscal cliff crisis as closely as I do, and because major developments happened during New Years Eve and many, understandably, had better things to do, let me summarise the issue in the most simple terms.

First, I have to give some definitions:

Fiscal Cliff – an automatic end to Bush’s tax cuts passed in 2001-2003; automatic cuts to budget (aka sequestration).

Budget cuts (sequestration) – A deal that was reached as a result of debt ceiling agreement between Rs and Ds in the summer of 2011. Includes cuts to social programs as well as big cuts to defense budget.

Debt ceiling (or debt limit) – many people confuse it with fiscal cliff. Debt ceiling is a borrowing limit that has been raised, no questions asked, for years to meet US spending obligations. Until 2011, when Republican congress decided to make that raise a partisan issue and demand Democrats to make 1:1 budget cuts before raising it. US will hit the debt ceiling again in 2 months.

Deficit (or budget) hawks – people who think that reducing the deficit should be our utmost priority. In my experience, many budget hawks are more interested in spending cuts than in raising taxes.

Technically, we went over the fiscal cliff at 12:01am on Jan 1st 2013. But we were in “free fall” only for 2 hours. At 2am the Senate has passed a bipartisan bill that raises taxes on roughly the top 2% (households making more than $450K and individuals making more than $400K), extends unemployment benefits and spares the 98% from tax increases. It doesn’t adress any budget cuts, those were postponed to be dealt with until February. So even though the deal looks good for some on the left, there are plenty of things to dislike.

If you remember the events of late summer of 2011, when markets plunged as US Congress was at an impasse over the debt limit and US credit was downgraded, you’re in for a similar experience this coming February. As expected, Republicans (even though about 60 of them voted for the bill in the House) will make a big showcase about the budget cuts, namely cuts to social programs like Medicare and Medicaid and they will no doubt link it to an increase in debt limit. That is Democrats and Obama will not get the debt limit raised unless they cut, 1 for 1, favorite public programs. Democrats will be pushing for smaller cuts or for cuts in defense spending. From what I read on different political blogs right now, defense spending seems to be a more sacred cow than social programs. Will Democrats find the balls to cut it?

After the freshly passed deal will be signed by Obama, he will forfeit the leverage he had on Dec 31st. Because Obama didn’t include the debt limit resolution in the bill (my major complaint about the deal), he essentially gave away the advantage on the issue to the deficit hawks. I think he had room to negotiate that provision into a deal. He could have just said: “Guys, I’m raising the cutoff for families from $250K to $450K and for this I’d like to make debt ceiling increase automatic.” He didn’t do it, and as such I consider this deal, although a move in the right direction, rather poorly negotiated.

While I have my own reservations about this deal, the most on the right simply hate it. The taxes were raised and no budget cuts were included  – a heresy! Even the acquisition of a debt ceiling leverage does not placate them. Obama adamantly said yesterday that he will not play that game again but the only tool he has against the Republican intransigence (and hurt egos, bitterness and thirst for revenge) is rhetoric. Obama’s trump card has been played.

Update: Here’s the dissection of the issue in fun Big Lebowsky terms.

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