Satyajit Das: Fiscal cliff not big enough to solve US debt problem

Stateside View: What is needed is a review of all spending to better target it and align it with tax revenues

Ironically, the approaching fiscal cliff (scheduled reductions in the US budget deficit) may, at least on the face of it, "improve" public finances, reducing the deficit and slowing the increase in debt levels. But the fiscal cliff will not of itself solve America's financial problems. It is simply not high enough.

In January, in the absence of political agreement, a series of automatic tax increases and spending cuts will be triggered. These were part of the 2011 legislative package which increased the debt ceiling, allowing the government to continue to borrow. Several temporary tax cuts will expire. The total amount involved is around $500bn (£300bn) through to September next year. Automatic spending cuts will also commence, totalling $600bn per year and $6.1 trillion over 10 years.

The automatic tax increases, non-renewal of tax cuts and spending cuts are equivalent to 5 per cent of GDP. The non-partisan Congressional Budget Office (CBO) has estimated that the tax increases and spending cuts would reduce output by 3 per cent and increase unemployment to 9.1 per cent by the end of 2012.

President Barack Obama's ability to implement policy is constrained by continued Republican control of the House of Representatives. The Republicans remain reluctant to entertain tax increases or reductions in exemptions. The Democrats remain reluctant to consider reductions in entitlements and spending.

Mr Obama asserts that he has a mandate to reform the budget, especially increase taxes on wealthier Americans. John Boehner, Republican House Speaker, has been conciliatory, signalling a willingness to consider some higher taxes. A short-term compromise will be needed, entailing extension in some tax cuts and delaying some spending cuts. Negotiations on deeper structural tax and spending reforms may take longer. The latter would focus on some tax increases and some adjustment to spending.

Mr Obama may get some higher taxes. Republicans might accept higher income taxes, particularly for those earning more than $1m a year (rather than the $250,000 currently proposed). Some tax deductions and reporting loopholes may also be eliminated. In return, the administration may agree to changes in entitlement, such as higher Medicare retirement age and changes to indexation of social security benefits for inflation. There would probably also be cuts in spending on defence and other social welfare programmes.

The fiscal cliff if it is avoided, or the measures likely to be adopted, may not to be enough to address the deep-seated problems. What is needed is a radical overhaul of the tax system, including probably a value-added tax and wind-back of complex deductions and subsidies. What is also needed is a review of all spending, including defence and social welfare, to better target expenditure and align it with tax revenues.

But even with this action, without strong economic growth and falling unemployment, it is hard to see a significant improvement in American public finances. A recent CBO report concluded that "[very few policies] are large enough, by themselves, to accomplish a sizeable portion of the deficit reduction necessary". This means the US will probably still spend more than it gets in taxes, so US government debt will rise. This will force the Federal Reserve to continue existing policies, especially debt monetisation by purchasing government bonds and devaluation of the currency.

Given that the US constitutes around 25 per cent of the global economy, it is unlikely America's problems will stay in America. US dollar devaluation will create pressure for appreciation of other currencies, forcing other nations to implement measures, such as zero interest rate policies, QE programmes or capital controls. Foreign investors in US dollars and government bonds are likely to suffer losses.

How long the US can continue its profligate ways is unknown. But as the economist Herbert Stein observed: "If something cannot go on forever, it will stop."

Satyajit Das is a former banker and author of 'Extreme Money' and 'Traders Guns & Money'

Life and Style
Small winemakers say the restriction makes it hard to sell overseas
food + drink
Arts and Entertainment
A comedy show alumni who has gone on to be a big star, Jon Stewart
tvRival television sketch shows vie for influential alumni
Arts and Entertainment
Carrie Hope Fletcher
booksFirst video bloggers conquered YouTube. Now they want us to buy their books
News
Clare Balding
peopleClare Balding on how women's football is shaking up sport
PROMOTED VIDEO
Arts and Entertainment
Damien Hirst
artCoalition's anti-culture policy and cuts in local authority spending to blame, says academic
Sport
premier leagueMatch report: Arsenal 1 Man United 2
Arts and Entertainment
Kirk Cameron is begging his Facebook fans to give him positive reviews
film
News
i100
Sport
Jonny May scores for England
rugby unionEngland 28 Samoa 9: Wing scores twice to help England record their first win in six
Life and Style
fashionThe Christmas jumper is in fashion, but should you wear your religion on your sleeve?
News
ebooksNow available in paperback
Arts and Entertainment
Jason goes on a special mission for the queen
tvReview: Everyone loves a CGI Cyclops and the BBC's Saturday night charmer is getting epic
Arts and Entertainment
Jerry Hall (Hand out press photograph provided by jackstanley@theambassadors.com)
theatre
Sport
Tony Bellew (left) and Nathan Cleverly clash at the Echo Arena in Liverpool
boxingLate surge sees Liverpudlian move into world title contention
Voices
Neil Findlay
voicesThe vilification of the potential Scottish Labour leader Neil Findlay shows how one-note politics is today, says DJ Taylor
Life and Style
food + drinkMeat-free recipes and food scandals help one growing sector
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Reach Volunteering: Trustee – PR& Marketing, Social Care, Commercial skills

Voluntary Only - Expenses Reimbursed: Reach Volunteering: Age Concern Slough a...

Reach Volunteering: Charity Treasurer

Voluntary Only - Expenses Reimbursed: Reach Volunteering: Crossroads Care is s...

SThree: Trainee Recruitment Consultant - Soho

£20000 - £25000 per annum + OTE £35,000: SThree: We consistently strive to be ...

Ampersand Consulting LLP: Markit EDM (CADIS) Developer

£50000 - £90000 per annum + benefits: Ampersand Consulting LLP: Markit EDM (CA...

Day In a Page

Mau Mau uprising: Kenyans still waiting for justice join class action over Britain's role in the emergency

Kenyans still waiting for justice over Mau Mau uprising

Thousands join class action over Britain's role in the emergency
Isis in Iraq: The trauma of the last six months has overwhelmed the remaining Christians in the country

The last Christians in Iraq

After 2,000 years, a community will try anything – including pretending to convert to Islam – to avoid losing everything, says Patrick Cockburn
Black Friday: Helpful discounts for Christmas shoppers, or cynical marketing by desperate retailers?

Helpful discounts for Christmas shoppers, or cynical marketing by desperate retailers?

Britain braced for Black Friday
Bill Cosby's persona goes from America's dad to date-rape drugs

From America's dad to date-rape drugs

Stories of Bill Cosby's alleged sexual assaults may have circulated widely in Hollywood, but they came as a shock to fans, says Rupert Cornwell
Clare Balding: 'Women's sport is kicking off at last'

Clare Balding: 'Women's sport is kicking off at last'

As fans flock to see England women's Wembley debut against Germany, the TV presenter on an exciting 'sea change'
Oh come, all ye multi-faithful: The Christmas jumper is in fashion, but should you wear your religion on your sleeve?

Oh come, all ye multi-faithful

The Christmas jumper is in fashion, but should you wear your religion on your sleeve?
Dr Charles Heatley: The GP off to do battle in the war against Ebola

The GP off to do battle in the war against Ebola

Dr Charles Heatley on joining the NHS volunteers' team bound for Sierra Leone
Flogging vlogging: First video bloggers conquered YouTube. Now they want us to buy their books

Flogging vlogging

First video bloggers conquered YouTube. Now they want us to buy their books
Saturday Night Live vs The Daily Show: US channels wage comedy star wars

Saturday Night Live vs The Daily Show

US channels wage comedy star wars
When is a wine made in Piedmont not a Piemonte wine? When EU rules make Italian vineyards invisible

When is a wine made in Piedmont not a Piemonte wine?

When EU rules make Italian vineyards invisible
Look what's mushrooming now! Meat-free recipes and food scandals help one growing sector

Look what's mushrooming now!

Meat-free recipes and food scandals help one growing sector
Neil Findlay is more a pink shrimp than a red firebrand

More a pink shrimp than a red firebrand

The vilification of the potential Scottish Labour leader Neil Findlay shows how one-note politics is today, says DJ Taylor
Bill Granger recipes: Tenderstem broccoli omelette; Fried eggs with Mexican-style tomato and chilli sauce; Pan-fried cavolo nero with soft-boiled egg

Oeuf quake

Bill Granger's cracking egg recipes
Terry Venables: Wayne Rooney is roaring again and the world knows that England are back

Terry Venables column

Wayne Rooney is roaring again and the world knows that England are back
Michael Calvin: Abject leadership is allowing football’s age-old sores to fester

Abject leadership is allowing football’s age-old sores to fester

Those at the top are allowing the same issues to go unchallenged, says Michael Calvin