Are We Headed Over the Fiscal Cliff?

An election non-issue threatens long-term U.S. economic health.

The so-called "fiscal cliff" is the topic of conversation between President Obama and labor leaders this week.
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President Barack Obama received some much-needed good news last week when the Bureau of Labor Statistics announced that the unemployment rate had dropped from 8.1 percent to 7.8 percent—the lowest since Obama took office.

The news drew attention away from Obama's poor debate performance earlier in the week, allowing him to make an argument that his economic policies are working. It also supports a growing sentiment among the American public: Things are finally getting better.

[See 4 Steps to Lock Down Your Portfolio for the Election.]

According to the Bloomberg Consumer Confidence Index, Americans' confidence in their financial situation has reached a three-month high. The same index found that 50 percent of Americans are optimistic about the direction of the economy.

In addition, retail spending has been on the rise in recent months. And the housing market, which has been a drag on the economy for nearly five years, is showing signs of improvement.

All this positivity arises while a number of dark clouds loom. The European Union remains on the verge of collapse, and concerns about the health of the Chinese economy persist. But the greatest threat to the economy derives from the fiscal cliff.

By year's end, Congress must decide whether to extend a series of Bush-administration tax cuts that would affect American consumers and businesses, and whether to make cuts in federal spending. Republican and Democratic positions remain in stark opposition on whether to allow the cuts to continue.

The Congressional Budget Office has said canceling the spending cuts while extending the tax cuts would spur economic growth. Economists widely acknowledge that a failure to compromise would send the economy spiraling back into recession. 

However, the general public doesn't appear too concerned about how the issue surrounding the cliff is resolved. And even though control of the White House will play a key role in how negotiations over the cliff proceed, the topic hasn't been mentioned on the campaign trail in weeks.

[See Understanding the Fiscal Cliff: What It Means for Your Money.]

Businesses, meanwhile, are far more concerned about the fiscal cliff. The Conference Board's CEO Confidence Index—an important measure of how business leaders are planning for the coming months—slumped again in the third quarter.

"This latest report reflects ongoing concern about the strength of the economy. CEOs' assessment of current conditions remains weak, and they have grown increasingly pessimistic about the short-term outlook," says Lynn Franco, director of economic indicators at The Conference Board. "Sluggish growth and a persistent cloud of uncertainty have played a role in CEOs curtailing spending plans this year."

Too much uncertainty. Although the stock market hints at an Obama victory in November, Andrew Tignanelli, president of The Financial Consulate, an investment advisory firm in Baltimore, says the unpredictability of recent elections is giving decision makers pause. "There are a lot of people sitting back, wondering what they are going to do and how they are going to plan for 2013," he says.

Tignanelli adds that peril surrounding slowdowns in foreign economies spreads more fear that the fiscal cliff would be disastrous for the U.S. economy. Many companies, including FedEx and Caterpillar, have already cut corporate projections based on the uncertainty of the next few months.

Tignanelli says uncertainty, not just about taxes related to the fiscal cliff but about other undefined tax changes related to an Obama or Romney presidency, are also worrisome to business owners. "Quite a few businesses are sitting back, saying there could be a lot of new taxes that are coming into force," he says.

[See Fiscal Cliff Worries? One Strategy to Put You in Control.]

History lesson. There is a growing hope that Congress and the White House will be able to come to an agreement that keeps the nation from heading over the fiscal cliff. But according to Tignanelli and Joel Naroff, president of Naroff Economic Advisors in suburban Philadelphia, the 2011 fight over the debt ceiling gives business leaders little confidence that the fiscal cliff can be resolved.