Why is America's fiscal cliff more worrying than Europe's?

 
Anti-austerity protesters outside the Greek parliament The programme for Greece debated by eurozone ministers involves spending cuts and tax rises worth 7% of GDP in 2013-14

Like many European politicians, finance ministers meeting in Brussels on Tuesday are worried about the US heading over a fiscal cliff next year. For good reason, you might say: given a fragile recovery, all of us in Europe are now unusually dependent on US growth.

As I discussed last week, there's reason to expect a solution to America's cliff, though not necessarily a pretty one.

The big questions now are whether Congress and the president will reach a deal before, or soon after, the Bush-era tax cuts expire at the end of the year; and whether rich households end up paying higher marginal tax rates, or just getting fewer deductions. Republicans seem resigned to smaller deductions, but not to higher rates.

But critics of eurozone austerity programmes can't help seeing a rich irony in German politicians fretting about accidental tax rises and spending cuts in the US. Aren't they the ones who've been insisting that large parts of the eurozone head over their own fiscal cliff, entirely on purpose?

Think about it: America's budget deficit in 2012 will be 8.7% of GDP in 2012, according to the IMF. That's higher than any country in the eurozone and nearly three times their magic 3% limit.

What is more, the IMF reckons that nearly seven percentage points of that US borrowing is structural - it won't go away with economic growth. That is a larger structural budget hole than any of the troubled eurozone economies, including Portugal and Greece.

Portugal's structural hole is just over 3% of GDP - half the size of America's. Encouraged by its eurozone partners, it is now planning budget cuts worth even more than that, in 2013 alone. The Greek programme that was debated last night by eurozone ministers involves spending cuts and tax rises worth 7% of GDP in 2013-14, the majority in the first year.

This will be the third year of steep budget cuts for most of these countries, yet policy makers in Brussels, Frankfurt and Berlin think it the bare minimum to maintain market confidence. Why, say the critics, do the same officials think it would be such a disaster for the world economy if America finally started to do the same in 2013?

One answer that economists might give is that European policy makers are conflicted on the subject of fiscal austerity and growth.

Remember those new estimates from the IMF of the "fiscal multiplier" - the amount that a given amount of budget cuts can be expected to cut growth?

Neither the European Commission nor the IMF itself has incorporated these new, higher estimates in its forecasts for Spain and the rest. That suggests that these economies will do even worse in 2013 than the commission or the IMF expects. Remember the Fund overestimated growth in the eurozone this year by a full two percentage points.

For example, the latest forecasts from the commission predict that the Spanish economy will shrink by 1.4% in 2013, but many independent forecasters expect much worse. And the average private forecast for Portugal is that its economy will shrink by 2.3% next year - not 1%, as the commission now expects.

But there's another, more sympathetic explanation why European leaders seem less worried about Europe's fiscal cliff than America's: they just don't see an alternative.

The European Commission, the ECB and the rest think that America can afford to sort out its fiscal problems gradually - but the likes of Portugal and Spain cannot. These countries may be throwing themselves, repeatedly, over a fiscal cliff. But as long as neither eurozone taxpayers nor the global financial markets are willing to finance their current borrowing, the feeling is that austerity and recession are the best they can do.

Is this path really the best of a bad lot? Negotiations over the Greek programme are bogged down on precisely this point.

European officials are resigned to the idea of giving Greece another two years to meet its debt and deficit targets. But neither the Germans nor anyone else seems willing to pay to tide Greece over in the meantime. So the wrangling is set to continue, for at least another few weeks.

In the meantime, you can see why Americans might think it showed some nerve on the part of the Europeans. In effect, Europe's politicians are telling the US government that it needs to keep borrowing to support global growth - even though, when it comes to their own economies, they are doing the exact opposite.

 
Stephanie Flanders, Economics editor Article written by Stephanie Flanders Stephanie Flanders Former economics editor

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  • rate this
    0

    Comment number 30.

    24.pmk

    "there'd be another revolution if sb dare introduce it."

    Quite. The US view (generalising) is to reduce taxes at every opportunity. That does not clear debts, even if you do reduce services.

    "The only fair tax I know of."

    There we differ. I feel that those that can pay more should. This reduces income inequality, and I regard that as fairer.

    27.JE

    Quantifiable, so taxable!

  • rate this
    +2

    Comment number 29.

    America has run a sepnding / income deficit since before 1970 with the excpetion of a 3 year period; average deficit (inc surplus period) has been 3% of GDP p.a.. The $ is a reserve currency, hence no run and cheap borrowing. What happens at a'king has no clothes' moment? or China's Renmimbi 'floats' it's currency on the open market.. scary - lets get our house in order,

  • rate this
    +2

    Comment number 28.

    I'm not worried by any of it the only thing I have learned is that whatever the large political factions do nothing changes for the man on the street at all you're always too old or too young to benefit or first you're too young then you're too old and for being non dis-crime-in-a-tory there is a lot of dis-crime-in-a-nation and they fight and break up only to reform elsewhere as somthing else.

  • rate this
    +1

    Comment number 27.

    22.ComradeOgilvy
    Unfortunately thats another way big corps will find a way round sales tax. They will say they are selling a service rather than a product (Facebook/Google), Apple will rent their products, Thames Water a service, Starbucks part of the cost will the service rather than a product!

  • rate this
    +2

    Comment number 26.

    It would appear from latest inflation figures the UK is also heading over a fiscal cliff. Government continues with its failed policy of austerity & near zero growth to appease their friends in the COL who are making hay borrowing money & lending it to each other and then to borrowers at exorbitant rates of interest. Why should anyone be surprised from Mr towel folders failed policy

  • rate this
    0

    Comment number 25.

    23.WunderfulBBC

    Your contribution is so full of factual errors I wonder that you can tell night from day!

    Your bile is misdirected.

  • rate this
    +1

    Comment number 24.

    19.JasonEssex

    17.ComradeOgilvy
    I agree and believe a sales tax is more preferable rather than a tax on profit.
    +++

    There's no VAT (amounting to almost 1/4th of the final price) in U.S.

    [there'd be another revolution if sb dare introduce it.
    and a drop in EZ massses coming to US for electronics]

    And there's growing pressure to introduce FLAT TAX.

    The only fair tax I know of.

  • rate this
    +5

    Comment number 23.

    The EU is a bloated bureaucracy led by unelected, self-serving incompetents.
    The demand for vastly more budget in the years ahead, highlights their complete inadequacy for the job.

    The Euro is taking forever to die, and will probably take a great many with it, all for the sake of a flawed ideal.
    Countries like Greece have to leave the Euro, and the longer it is delayed, the more harm is wreaked.

  • rate this
    +2

    Comment number 22.

    17.me

    ( To clarify - 400ch doesn't help).

    This is money paid by the corporation is question, not the customer. It should be applied to all sales, VATable or not.

    It is also more applicable to goods than services for various reasons. Profits from those more often relate to IP, in which case that should be handled locally, not exported abroad.

  • rate this
    +4

    Comment number 21.

    The fiscal cliffs exist because of the can-kicking that has been taking place for the last 4 years.

    The underlying problem of far too big (&bankrupt) banks must be faced & fixed. Not to do so is a recipe for repeating the Long Depression of the 1870-1890.

    1. NO bank can be too big to fail.

    2. Money must ALWAYS (throughout the economic cycle) be prudentially priced.

    We must get back to sanity.

  • rate this
    +1

    Comment number 20.

    I think after the last 5 years of can kicking it is fairly obvious to say there is no solution. Globalization has made corporations very rich aided by sponsored politicians. There are no votes in telling us that our standard of living and future is going straight down the glitter. We focus on imigration; it will be the chinese closing the borders to us soon enough.

  • rate this
    +2

    Comment number 19.

    17.ComradeOgilvy
    I agree and believe a sales tax is more preferable rather than a tax on profit. This would also stop private equity loading up companies with debt to pay less and pay themselves big salaries. Howevber some clever accountant will find their way round it. For instance you don't buy the iPAD from Apple you rent it - no sales tax paid.

  • rate this
    0

    Comment number 18.

    "It'll take US 25 years to recover"?

    Really?

    http://www.bbc.co.uk/news/business-20304848


    P.S. Don't worry. Obama will be gone in 4 years.

    [or less, if Benghazigate finally blows up in his face]

    And we've recovered from 4 years of Carter malaise!

  • rate this
    +4

    Comment number 17.

    15.JE

    The loopholes exist because the tax system is too complex. This is deliberate and the result of lobby groups efforts. These can be fixed.

    To take your example: set corporate tax based on sales (not profits). In principle that will mean the customer pays £270+tax. In practice, this makes the price prohibitive and Apple will lower the customer price or lose sales.

  • rate this
    +1

    Comment number 16.

    Let's be honest, working middle class people will never accept to pay more than 1/2 of their income in taxes (income tax,national insurance,VAT,council tax,fuel tax,car tax disc...).

    This works when the amount of workers is more than double that of kids, pensioners and unemployed.

    This won't work as population gets older.

  • rate this
    0

    Comment number 15.

    13.ComradeOgilvy
    The problem is how exactly do you close down the loopholes? Apple UK sells an for £270.00 but buys it from Apple US for £269 and pays no corporation tax as it doesn't make a profit. This is just one simple method of minimising tax paid and there are plenty more all perfectly legimate. Apple paid £10mil on sales of £6bil but people will still buy their products.

  • rate this
    +4

    Comment number 14.

    SF: "the commission predict that the Spanish economy will shrink by 1.4% in 2013, but many independent forecasters expect much worse. And the average private forecast for Portugal is that its economy will shrink by 2.3% next year - not 1%, as the commission now expects."

    While Germany is predicted to enter into recession next year.

    And those people are worrying about US economy growing at 2%

  • rate this
    +4

    Comment number 13.

    http://www.bbc.co.uk/news/business-20288077

    When governments realise that tax must be paid, then we can deal with the deficit.

    Their tax take will only be sufficient when governments legislate so that they can tax economic activity within their own spheres.

    That does not necessarily require 'international agreement', nor a race to the bottom on tax rates (that hasn't helped Ireland).

  • rate this
    +7

    Comment number 12.

    Whilst Europe's issues are important so is the UK economy which seems to have slipped off the radar here. We did have this today.

    "The Consumer Prices Index (CPI) annual inflation stands at 2.7 per cent in October 2012, up from 2.2 per cent in September."

    The consequences of this such as real wages in the UK falling even faster I discuss here.

    http://wp.me/pHQQ9-KG

  • rate this
    +4

    Comment number 11.

    The entire West is addicted to debt. This is simply because nobody is willing to raise or pay taxes.

    There is only one fix for this and it is the same in all the nations discussed. Without an adequate income, states will fail. Faster if they insist on supporting banks and corporations which themselves refuse to pay their taxes.

 

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