Happy New Cliff!

Washington's mini-deal is no great victory for bipartisanship, and knowledge leaders have postponed a larger clash will ensure the market afterglow is temporary.


The cliff has been averted (give or take a few hours). Hurrah for bipartisanship! Alas, Washington has merely traded one cliff for another, as it was always likely to do. The deal that was hurriedly brokered by Joe Biden and Mitch McConnell on Monday and passed the Senate at 2am on Tuesday (at the time of writing, it had yet to pass the House) merely sets up a larger showdown two months from now.

Democrats can claim a political victory for having secured the first tax increase on the wealthy in more than two decades – albeit at the higher than desired threshold of $400,000. And Republicans can look forward to having greater leverage in the looming brinksmanship over the sovereign debt ceiling, which roughly coincides with the next cliff. On the plus side, we are guaranteed an entertaining spell of colliding metaphors as the cliff makes way for the ceiling (plus bonus collisions – Barack Obama talked last Sunday of taking "a bite out of the cliff”).

Here are three larger points to keep in mind amid the abstruse details of Washington’s coming manoeuvrings. First, Monday night’s mini-deal is likely to be unhelpful to US growth prospects. There is nothing about the state of the real US economy that calls for a rolling fiscal crisis. Alas, that persistent fog of uncertainty – call it the "DC risk premium” – is not going to lift. With another debt ceiling showdown coming in a few weeks, it will probably thicken.

The mini-deal also put an end to the two per cent payroll tax holiday, which has helped keep the US economy growing in the last two years. It is possible – even likely – Monday night’s deal will boost consumer confidence and spark a relief rally on Wall Street when it reopens on Wednesday. But knowledge of the looming debt showdown will ensure that both are temporary.

Second, Obama remains as detached in his negotiating style as he was for most of the debt ceiling crisis in 2011. And that didn’t turn out so well (it set up the fiscal cliff). On grounds of policy, Obama remains far more sinned against than sinner – his initial proposal in early December to avert the cliff would have been helpful to the US recovery. He has also shown greater flexibility in the talks than John Boehner. But in terms of operating style, Obama is not about to locate his inner Lyndon Johnson.

Last Sunday David Brooks memorably described Obama as governing like a "visitor from a morally superior civilisation”. Instead of locking congressional leaders in the Oval Office day after day until they got a deal – as Bill Clinton did during the government shutdown crisis of 1995 – Obama outsourced talks to the Senate and eventually to Joe Biden. This is bad news for 2013. Obama needs to ensure that another year is not frittered away on cliffs or else he will have scant room to set his second-term agenda.

Third, we are not about to witness a Republican conversion to bipartisanship. The Democrats may be weakly led from the top. But the GOP is almost wholly led from the bottom. Obama can plausibly claim to be able to deliver whatever he offers in a negotiation even if it is unpopular with the Democratic base. Neither Boehner nor McConnell can have the same confidence Republicans will follow them. Many Republicans have now voted for – or at least connived in – a tax increase on the wealthiest Americans. Having given way on their pledge, Republicans will now demand payback in the form of steep spending cuts to avert a debt crisis before the spring.

Obama, meanwhile, will demand a dollar of additional tax increases for every dollar of spending cuts. It is hard to see how this coming spell of wrangling will be good for US growth. On Monday, the respected Andy Laperriere of International Strategy and Investment raised the chances of a full US sovereign default in early 2013 to one in four. Expect those odds to narrow.

If there is a silver lining to all of this, the next showdown will offer Obama a chance – albeit slim – of knocking fiscal brinksmanship on the head for the remainder of this Congress. If he can accomplish that, he will gather impetus to pursue his priorities, including immigration reform and action on global warming. But it would be unwise to bet on it.

Copyright the Financial Times 2013.

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