How the Deficit Super Committee’s Fail Affects You—and the Economy

Last summer when Congress found itself unable to come up with a plan to cut the deficit, it created a panel of six Democratic and six Republican Congress members tasked with figuring out a solution.

On Monday, this so-called “super committee” threw up its hands on the day of its self-imposed deadline. The panel’s failure to broker a plan could trigger $1.2 trillion in automatic deficit cuts that will take effect January 3, 2013 and roll out over a decade.

While the markets took a spill, the nation simply looked on in disgust and resignation, but not surprise.

Now, it’s left to Congress to try to rescue the deficit-cutting effort in the next year. (Let’s ignore the irony that the deficit panel had been tasked with rescuing the effort after Congress had failed at it.)

The super committee’s implosion could even have ramifications as early as next month because of two deadlines that would affect all workers and 3.5 million unemployed Americans: A current payroll tax break will expire December 31st, as will supplemental unemployment benefits for the long-term unemployed. The collapse of deficit talks could also spell the end of the Bush-era tax cuts, slated to expire at the end of 2012.

And if Congress thinks it will get out of this by just chucking the automatic deficit reductions, President Obama won’t have it: He has warned that he will veto any attempt by Congress to change them.

But at a time when jobs, jobs, jobs are top of mind and deficit is at the bottom, what does the super committee’s super fail mean for our economy?

Filling In the Backstory

Back in August, when government debt was reaching its limit, Congress agreed to immediately increase the debt ceiling as long as a special committee (which became the Joint Select Committee on Deficit Reduction, AKA the “super committee”) would come up with a plan to trim $1.2 trillion from the deficit over the next decade.

If it didn’t, a slew of cuts—some of which were anathema to Democrats and others which were offensive to Republicans—would kick in and take effect in January 2013:

• $492 billion to the defense budget
• $123 billion to the Medicare budget
• $322 billion to nondefense discretionary programs such as health, education, drug enforcement, national parks and more
• $47 billion to agriculture

It was thought that the threat of cuts to each party’s pet programs (i.e. defense for Republicans and Medicare for Democrats) would spur each party to compromise and come up with a better solution. But ultimately, the two parties were too far apart on issues such as taxes, Medicare and Social Security.

What the Super Committee’s Failure Could Mean for …

The U.S.’s Credit Rating

The super committee’s failure to reach a resolution may spur a credit rating agency, Fitch Ratings, to take a “negative rating action” (most likely changing its outlook on the U.S. to negative) by the end of the month.

That threat is stirring up nightmares from August when the Standard & Poor’s credit rating agency downgraded the U.S. from its top credit rating for the first time ever. At that time, Standard & Poor’s cited “the gulf between the political parties” as one of the reasons for its historic decision. (Just a few days earlier, the parties’ brinkmanship had delayed a deal on the debt ceiling until the 11^th hour.)

Then, the markets tumbled as investors fled risky stocks for what were thought to be safe U.S. Treasury notes. On Tuesday, they did the same: An auction for two-year Treasury notes saw more potential buyers than any other similar auction since 1992.

As Marc Pado, U.S. market strategist at Cantor Fitzgerald & Co. told the Wall Street Journal, “This is the worst-case scenario coming to light.”

Economic Growth

If Congress also fails to come up with another deficit reduction plan and the automatic cuts go through, they could quickly slim down the federal deficit. So quickly, in fact, that its projected revenues and budget cuts would more than halve the deficit to $510 billion from $1.3 trillion by 2013. And so quickly that it could drag down economic growth by essentially raising taxes on everyone at the same time that government spending is slashed.

Moody’s analytics released a report forecasting that the cuts would be a “historically extreme” deficit reduction that could tip the economy into a recession. The rise in federal revenue (3.7% over two years) would be the sharpest increase since 1969 when sudden taxes “helped set off a mild recession.”

A near-term concern is whether Congress will extend the payroll tax break, which lowers the amount workers pay toward Social Security, and the extended unemployment benefits, which support Americans who have been jobless for half of a year. On Tuesday, President Obama advocated to extend the payroll tax break

A Personal Debt-Reduction Plan

Congress may have blown it, but you can sign up for our Get Out of Debt Bootcamp to get daily instructions in your inbox on how to cut down your own debt load responsibly. Sign up here.