DEUTSCHE BANK: The Fiscal Cliff Everyone Is Freaking Out About Isn't That Big

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The fiscal cliff coming in 2013 likely won’t be a cliff at all, Deutsche Bank Chief U.S. Economist Joe LaVorgna says in a note out to clients today.

LaVorgna writes that most coverage thus far has centered around estimates from the Congressional Budget Office, putting the loss to GDP at $388 billion next year (when hirer taxes and automatic spending cuts kick in), or 2.5 per cent of GDP in fiscal 2013.

“We believe it will be much less than that, as our forecast is assuming a drag of just under one percentage point of GDP,” he says. “Consequently, absent any fiscal tightening next year, we would be projecting nearly 4% real GDP growth instead of the 3% we currently anticipate.

Why is he modelling a much smaller fiscal cliff? Take a read from his note.

For starters, remember that the CBO estimates are based on current budget law. There are no assumptions of what is likely to happen on the legislative docket, which will probably be significant. For example, current budget law assumes there will be no indexation of the Alternative Minimum Tax (AMT) in 2012 despite the fact that Congress has repeatedly adjusted the AMT so as to not ensnare an increasing portion of the tax-paying population. According to the CBO, fixing the AMT is worth $89 billion. On the spending side, current budget law also assumes that there will be a reduction in Medicare physician payments, which according to the CBO is worth $19 billion. We believe this is unlikely.

LaVorgna also adds it’s unlikely that the Bush tax-cuts would be phased out for middle-income Americans by either a Romney or Obama administration, boosting GDP.

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