The Fiscal Cliff in Pictures

You may be tired of all the "fiscal cliff" commentary, but that may be due to the walls of text that accompany every article. What's been missing? A fiscal-cliff picture book.

Here's a set of graphs and charts from the nonpartisan Congressional Budget Office showing what would happen given either no compromise or what it calls an "alternative fiscal scenario." In its alternative, all tax cuts except the payroll tax cut are extended, the alternative minimum tax is indexed for inflation, Medicare payment rates are not cut, and the automatic spending cuts don't happen.

The deficit

Source: CBO, "An Update to the Budget and Economic Outlook," August 2012.

The deficit would shrink to a measly 0.4% of GDP by 2018 given the fiscal cliff, whereas the alternative only cuts it to 4.2% of GDP. These deficits, of course, feed into total debt.

The debt


Source: CBO, "An Update to the Budget and Economic Outlook," August 2012.

The alternative scenario leads us to nearly 90% debt to GDP, whereas the cliff takes us less than 60% debt to GDP. What are the specific contributors to this debt and deficits?

The deficits broken down


Source: CBO, "An Update to the Budget and Economic Outlook," August 2012.

The tax policies have the greatest effect on deficits going forward, with spending cuts accounting for a much smaller portion. The scary part here, as any credit card holder might know, is the growing debt service. That's the interest the government has to pay on its debt. What do we get for these higher deficits?

Unemployment

 
Source: CBO, "An Update to the Budget and Economic Outlook," August 2012.  

For one, unemployment would likely remain around 8% in 2013, versus the fiscal cliff scenario, where it is forecast to rise to more than 9%. In the long run, though, unemployment in 2022 is forecast to be a little higher than 5% for both scenarios.

GDP growth

Source: CBO, "An Update to the Budget and Economic Outlook," August 2012. 

Going off the cliff will earn us a bruise on our GDP, shrinking it about 0.5% in 2013. The alternative, meanwhile, allows us to grow more than 1.5%. In 2022, however, the increased debt burden for the alternative takes a small chomp out of future GDP.

Don't be a lemming
As these pictures illustrate, we can survive no matter what policies are enacted. While individual companies that rely heavily on the government might be stung -- e.g., Lockheed Martin (NYSE: LMT  ) , which takes in 82% of revenue from government business, or General Dynamics (NYSE: GD  ) , which counts on the government for 69% of revenue -- it also shows that cuts to program budgets will only be a small part of an overall solution.

And even with the S&P 500 (INDEX: ^GSPC  ) falling more than 5% since the election, there are plenty of reasons for long-term optimism beyond the next year. Recent corporate investments -- such as GE's (NYSE: GE  ) $200 million in financing for two liquid-natural-gas plants that GE, along with partner Clean Energy Fuels (Nasdaq: CLNE  ) , will bring online in 2015 -- might be a sign that the large cash piles corporations have been sitting on through the recession will finally be put toward infrastructure and future business investments.

If the pictures above have sparked your interest in further researching the impacts of the fiscal cliff or alternative scenarios on one of America's largest companies, take a look at our premium report on GE. This report spells out not only GE's opportunities, such as liquid natural gas, but also the risks it faces, like its reliance on currently weak Europe for 20% of its revenue. For your copy of this premium report, along with updates on relevant news and analysis, click here.


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Comments from our Foolish Readers

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  • Report this Comment On November 16, 2012, at 7:09 PM, robinsdavida wrote:

    the analysis uses "Federal debt held by the public". But the percents shown don't jive with other information I've read. I'm not sure what this debt includes, but I'm guessing it doesn't include the 2 largest holders of debt: 1) the Social Security "trust fund" which "loans" all its surplus to the treasury, and 2) the Federal Reserve which just puts little notes in some book somewhere and magically, that translates into "loans" to the treasury. So they are ignoring a big part of the problem. In any case, our TOTAL debt is roughly $16 trillion and has already surpassed GDP.

  • Report this Comment On November 17, 2012, at 4:35 PM, DufferWD wrote:

    Looking at these graphs falling off the fiscal cliff doesn't look so bad (think Dodo birds from 'Ice Age'). Yes there's pain, however not that much pain. Yet both sides of Congress seem to think it's the cliff of doom. What's missing here? Or is the 'fiscal cliff' media hype?

  • Report this Comment On November 18, 2012, at 11:31 AM, drfrank1 wrote:

    "Looking at these graphs falling off the fiscal cliff doesn't look so bad"

    Sure, uneployment going back up above 9% and negative GDP growth in 2013 (ie: Recession). Definitely media hype...

  • Report this Comment On November 19, 2012, at 10:49 AM, TMFGortok wrote:

    Let's assume that the government continues to spend the way it has.

    At some point, the following will happen

    1) investors will stop lending the US money since it can't pay off its debt

    2) The US will be forced to raise taxes to 100% in an attempt to pay off the massive amounts of debt racked up (which even at 100% could not pay off the deficit, let alone the debt): http://www.youtube.com/watch?v=FC5Gkox-1QY )

    3) The US will attempt to monetize the debt by printing money (it is already attempting to do this); this will hurt those on a fixed income the most (the seniors, the poor); and it will drive the value of our currency even lower, possibly sparking the world to 1) stop loaning us money through buying treasury bills, and 2) switch to alternative currencies for their trading (which is already happening).

    Everyone loves 'free' money, but these programs that people claim no one can live without are driving us (and the people who rely on these programs) further into the poor house.

    The only solution that won't result in catastrophe is to cut spending for the military-industrial complex and to get the federal government out of the business of medical care, education, and tax redistribution.

    It's either that, or financial reckoning for us, our children, and our children's children.

  • Report this Comment On November 19, 2012, at 11:13 AM, Matthewuwf wrote:

    TMFGortok:

    Raise taxes to 100%? That sounds pretty rough.

  • Report this Comment On November 19, 2012, at 12:15 PM, ETFsRule wrote:

    ^^^ He has lost his mind.

    "2) The US will be forced to raise taxes to 100% in an attempt to pay off the massive amounts of debt racked up (which even at 100% could not pay off the deficit, let alone the debt): http://www.youtube.com/watch?v=FC5Gkox-1QY )"

    Some points:

    For some reason, your video, which was posted in 2012, cites the 2009 federal deficit of 1.5 trillion.

    The federal deficit is currently 1.1 trillion. Over the past couple of years, Obama has decreased the deficit by $400 billion, or about 26%. At that rate, the deficit would completely disappear in less than 4 years.

    How did that happen? Well, to understand deficits you have to look at what they are: they are the difference between federal spending and federal receipts.

    These figures are shown here, and the gap between them is the deficit:

    http://research.stlouisfed.org/fred2/graph/?g=cX0

    We can see from the graph that the deficit ballooned in 2008-2009, almost entirely because of the drop in tax revenues. This occured because of the weak economy: fewer people were working, and companies weren't making as much in profits. So, tax revenues dropped. It's worth noting that the drop in revenues had nothing to do with tax rates.

    So, how did the deficit decrease by $400 billion since 2009? Well, Obama has kept federal spending basically unchanged, especially from 2010-2012.

    Meanwhile, tax revenues increased significantly over that period. This is because of the drop in unemployment and rising corporate profits. Again, nothing to do with tax rates.

    Deficits are cyclical. To reinforce this idea, here is a graph of federal tax revenues (red line) and the unemployment rate (blue line):

    http://research.stlouisfed.org/fred2/graph/?g=cX4

    Almost a perfect inverse relationship. When one goes down, the other goes up.

    So, while spending cuts or tax increases could reduce the deficit faster, we don't necessarily need to do either one - this is proven by the deficit reduction that occured from 2010-2012, which had little to do with changes in spending or tax rates.

  • Report this Comment On November 20, 2012, at 11:20 AM, Johny205 wrote:

    TMF:

    If we print enough money it won't be worth anything but at least we could pay our debt of easily with it.

  • Report this Comment On November 20, 2012, at 11:43 AM, alerickson15 wrote:

    agree completely.

  • Report this Comment On November 25, 2012, at 12:41 AM, Hookem2011 wrote:

    In reference to ETFsrule:

    http://research.stlouisfed.org/fred2/graph/?g=cX0

    Different people see different trends in plots. This plot really disturbed me. Maybe I am not seeing it right but the first graph that ETFsrule posts shows federal spending going flat in late 2011 through late 2012 which is the reason the deficit per year number went down. How did the government not spend more money? How does it stay flat if there are no spending cuts?

    Also, this plot is the per year comparison, and if you want the total deficit, you have to calculate the area between the lines. That is the scary plot. If you take out the "stimulus" spending bump, the slope of the expenditure line is the same since 2002. Interestingly the slope of the federal receipt line since 2009 is the same as the expenditure line and the average receipt line prior to 2008. How do you ever close the total deficit W/o cutting the spending trend or increasing the receipts trend over many years? From 2004 to 2007, the receipt line slope was more than the expenditure slope thereby reducing the total deficit growth. However, how much of that was unsustainable "jobs/income" from the housing fiasco.

    Obviously you have to have many years of greater receipts than expenditures to reduce the total deficit in real dollars. Hopefully that would come from jobs/vibrant economy not just tax rate increases. The only way you make someone stop spending more more is reduce what you are giving them or not to give them more.

    To my simple way of thinking, basing the deficit on % of GDP gives you a false sense of what the deficit is doing because you don't know if the change is due to unbridled spending or a tanking economy.

    The long term trends do not look good (even with the rosy predictions from the CBO graphs). Do we ever recover from the 2008 fiasco w/o a major historical event? The recovery from the depression was due to WWII and the huge industrial expansion that it created. Our deficit growth since then has been due to excessive living and government spending. Do we have it in us? I think it is going to take sacrifice by all that no one seems willing to take.

  • Report this Comment On November 25, 2012, at 2:05 AM, ETFsRule wrote:

    "Different people see different trends in plots."

    Very true. And, the federal reserve's FRED system lets you alter the graphs in a number of ways, which gives you a lot of flexibility in the graphs that you create (this is sort of a sadomasochistic hobby for me, so I have spent a bit of time on these graphs).

    The plot looks even worse on a longer scale:

    http://research.stlouisfed.org/fred2/graph/?g=d6L

    But it does show that the deficit wasn't really a problem in 1970, and it also shows the great success of Clinton in creating a short-lived budget surplus (Clinton was probably the most fiscally responsible president that this country has ever had). Lastly, that plot shows just how ugly our current predicament truly is.

    You can subtract receipts from spending to get the net deficit, shown here:

    http://research.stlouisfed.org/fred2/graph/?g=d6G

    This shows the deficit maxing out around 1.3 trillion, not 1.5 trillion as Gortok's video mentioned. I trust the 1.3 T number more, and the 1.5 T may have been an initial estimate, or whatever, and not the actual number that occured.. So, we have really seen a $200 B deficit reduction over the past 2 years, not $400 B. At that rate it would probably take 11 more years to reduce the deficit to zero. Which is not great, but hopefully not a disaster either.

    "How did the government not spend more money? How does it stay flat if there are no spending cuts? "

    What's happening right now is a pretty tight budget from Obama, which will probably result in the first y/y reduction in federal spending that we have had in decades (for 2011-2012). We are saving some money from the winding down of the Middle East wars. But, this will be partially offset by some spending increases from Obamacare going into effect in 2013.

    "Interestingly the slope of the federal receipt line since 2009 is the same as the expenditure line and the average receipt line prior to 2008."

    Yeah, pretty much. The deficit was pretty stable at 2% of GDP before jumping to 9%:

    http://research.stlouisfed.org/fred2/graph/?g=d6H

    Of course, there was no good reason why we couldn't have had a budget surplus for the past decade. It was just incompetence.

    "The recovery from the depression was due to WWII and the huge industrial expansion that it created. Our deficit growth since then has been due to excessive living and government spending."

    Ahh, but those are 2 completely different things! During the great depression, everyone was worried about fixing the economy. Now, everyone is worried about fixing the federal deficit. Those are 2 entirely different goals, and they require different, even contradictory policies.

    For example: increasing federal spending would help boost the economy, but this would also increase the deficit. During the recovery from the great depression we had enormous increases in federal spending, which are very unlikely to occur today.

    In my last post I made the case for "doing nothing", which might be the best idea of all. Keep federal spending flat, let the private sector recover, and hopefully the deficit will take care of itself. This solution has the benefit of stability: "doing nothing" will not create any shocks to the system.

    Decreasing spending, in my opinion, is not a good option - at least not right now. This would likely put us back into a recession in 2013.

    Raising tax rates is more sensible, because tax rates are currently at historic lows. These tax hikes could go into effect in 2014 or 2015, or even later. The federal debt is a long-term problem, not a short-term one.

    "Our deficit growth since then has been due to excessive living and government spending. "

    I only agree with this idea if you include "unfunded tax cuts" as a part of "excessive living". Excessive military spending and unnecessary wars should also be included. Without those things, we would not have these massive deficits. Especially the tax cuts, starting in the early 1980's. That is when we started to accumulate all this debt.

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