Tags: Economy | Tax | Cut | Extension

Analysts: Economy Dodges Bullet with Tax Cut Extension

Friday, 23 Dec 2011 08:33 AM

America dodged a bullet by extending the payroll tax cuts, proponents of the two-month extension are concluding.

Late Thursday, lawmakers agreed to extend the payroll tax cut extension for two months. The tax was set to expire by January 2012 and will now hold at 4.2 percent instead of reverting back to 6.2 percent at least for a little while.

Failure to extend the payroll tax cut and unemployment benefits would have shaved close to one full percentage point off gross domestic product growth in 2012, says Lewis Alexander, a Nomura economist.

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"If the payroll tax cuts revert to their 2010 levels and unemployment benefits are not extended, we think that U.S. GDP growth in 2012 could be depressed by roughly 0.8 percentage point, implying growth of just 1.5 percent versus our current forecast of 2.3 percent," Alexander writes in a note, according to CNBC.

Other experts agreed failure to extend them threatened recovery.

"If they're not extended, then I think the economy comes to a standstill basically in the first quarter, and obviously very vulnerable to anything that goes wrong," says Mark Zandi, chief economist at Moody's Analytics, according to The Wall Street Journal.

Earlier this week, House Republicans thwarted Senate legislation what would have extended payroll tax cuts for two months, although they later accepted the proposal.

Not everyone was warm to the deal, pointing out the extension won't lead to a major increase in spending, which the economy really needs.

Consumer spending accounts for roughly 70 percent of total U.S. total economic output.

Furthermore, extending unemployment benefits dissuades many from looking for work.

"In general, temporary tax cuts have a very muted impact relative to permanent ones, a view that is well substantiated both by economic theory and by the experience of the last decade," says Stephen Stanley, chief economist at Pierpont Securities, The Wall Street Journal adds.

Others analysts point out that stock prices are poised to bump up at least for a session two now that Congress has given itself — and taxpayers — a breather before picking up the issue again.

"You may get a small pop… It wasn’t a negative catalyst when they didn’t have a deal," says Jordan Kotick, head of global technical strategy at Barclays, according to CNBC.

"The market is chewing on bigger issues."

Some experts say the bickering over payroll taxes is serving as a warm up for December of 2012, when income tax cuts expire and kick in automatic cuts to defense and domestic spending.

"The prospects are bleak," says Leonard Burman, a former Treasury Department official who teaches public affairs at Syracuse University in New York, according to Bloomberg.

"I've never seen such a high level of dysfunction in the 25 years or so that I’ve been paying attention to government."

The income tax cuts, widely known as the Bush tax cuts, were set to expire at the end of 2010 but were extended two more years.

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