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Tax and Budget Policy as
We approach the 2012
Election and 2013
47th Annual Bank and Capital Markets
Tax Institute
Orlando, Florida
November 8, 2012
Kenneth J. Kies
Managing Director
Federal Policy Group
A Practice of Clark & Wamberg
Page 2
View from Washington
Page 3
Overview
Federal Fiscal Outlook
Economic Outlook
Debt Ceiling Outcome
Massive Tax Uncertainty
Election Outcome
How Popular is Congress
What Were the Game Changers
Page 4
The Outlook for 2011
Federal Fiscal Outlook
Page 5
Deficit Outlook Under Obama Budget
$1,413
$1,293 $1,300 $1,095
$991
$661$595 $615
$576 $543 $578 $604 $627
$0
$200
$400
$600
$800
$1,000
$1,200
$1,400
$1,600
$1,800
An
nu
al
De
fic
it (
$ b
illio
n)
Fiscal Year
Annual Budget DeficitBaseline vs. Obama Budget
CBO Baseline Obama Budget
Source: CBO Baseline Budget Outlook, August 2012/ President Obama’s budget for fiscal year 2013, Mid-Session Review, July,2012
Page 6
Federal Debt Outlook: Treasury
Total Public Debt
$19.4
$20.3
$18.5
$17.5
$16.2
$9.9
$11.9
$13.5
$15.4
$0
$5
$10
$15
$20
2008 2009 2010 2011 2012 2013 2014 2015 2016
Fiscal Year
Pu
blic
ly H
eld
De
bt
($ T
rillio
ns
)
Source: President Obama’s budget for fiscal year 2013, Mid-Session Review, July, 2012
Page 7
Federal Debt Outlook: Treasury
Total Public Debt (As % of GDP) -- Treasury
69%
84%
93%
102%105% 106% 106% 107% 108%
0%
20%
40%
60%
80%
100%
120%
2008 2009 2010 2011 2012 2013 2014 2015 2016Fiscal Year
Source: Annual Report on the Public Debt, June, 2011
Page 8
Obama Deficits Would Be Historic
At 10% of GDP ($1.412 trillion), FY 2009 budget deficit was the highest in the nation’s history other than during World War II.
At 8.7% of GDP, ($1.291 trillion) FY 2010 budget deficit was the second highest in nation’s history other than during World War II.
At 8.7% of GDP ($1.296 trillion) FY 2011 budget deficit ties for being the second highest in the nation’s history other than World War II.
At 7.0% of GDP ($1.1 trillion) FY 2012 budget deficit will be the third highest in the nation’s history other than World War II.
Deficit during World War II – FY 1942 deficit: 14.2%
– FY 1943 deficit: 30.3%
– FY 1944 deficit: 22.7%
– FY 1945 deficit: 21.5%
Key difference between then and now – Then:
1. Budget back in surplus (1.7% of GDP) by 1947 and in 1948 generated largest annual surplus (4.6% of GDP) in nation’s history
2. From 1947 through 1977, federal budgetary policies reduced the federal debt as a percent of GDP by an average of 4% per year
– Now: 1. From 2011 through 2020, annual budget deficits will average 5% of GDP
2. During the same time period, federal budgetary policies will increase the federal debt as a percent of GDP by an average of 3.3% per year
Source: FPG Analysis of CBO estimates
Page 9
State of the Economy
Page 10
Economic Outlook
Page 11
States in Fiscal Crisis
Page 12
States and Cities in Fiscal Crisis
States face over $4 trillion pension funding shortfall
– A 2012 Harvard Kennedy School study found that all 50 states collectively face a public pension shortfall of up to $4.4 trillion.
“For purposes of comparison, an unfunded liability of $4.4 trillion would constitute a substantial 33% of the 2011 real U.S. GDP of $13.32 trillion.”
Underfunded Public Pensions in the United States, 2012
– Unfunded pension liabilities are the dark cloud on the horizon of state budgets; a cloud totaling trillions of dollars… Though they represent unavoidable fiscal debt, pension liabilities often slip under the radar when states tally up their spending, thanks to their status as "future payments" and accounting games. Aggressive pension reform is urgently needed in almost every state:
StateBudgetSolutions.org, October 9, 2012
– New accounting rules could TRIPLE projected funding gap: The Washington Post, August 16, 2012
Page 13
States and Cities in Fiscal Crisis
States face trillions in pension funding shortfall (continued)
– Government pensions rate of return doubted by some The Courier-Journal, October 8, 2012
10 states where the public pension fight is fierce (Unfunded Liability): California ($100 billion), Illinois ($85 billion), Kansas ($9.2 billion), Kentucky ($30 billion),
Louisiana ($18 billion), New Hampshire ($4.26 billion), New Jersey ($41.7 billion), New
York ($9 billion), Oklahoma ($10.6 billion), Rhode Island ($4 billion)
Wall Street Journal, October 7, 2012
Some cities face bankruptcy
– “Los Angeles could go bankrupt if it doesn't overhaul its finances with new taxes, possible layoffs and the privatization of some city services, the city's top budget official says.” San Francisco Chronicle, April 7, 2012
– Stockton, California's City Council “was poised to approve a budget plan for possible bankruptcy filing.” The Wall Street Journal, June 27, 2012
– “Atwater, California files for bankruptcy.” Reuters, October 4, 2012
Page 14
Economic Indicators
Consumer confidence
– Rose to 70.3 in September, up from 60.6 in August 2012
– A confidence rating that is between 90 and 100 indicates that the
economy is on solid footing. (source: Conference Board)
Unemployment
– Unemployment in October increased to 7.9% from September’s 7.8%.
In October, 171,000 net new jobs were created.
– Roughly 200,000 jobs must be created every month to maintain
current unemployment rate.
Page 15
Record Number of Youth Unemployed
– Nearly One-Quarter of workers between the ages of 16 and 19 were unemployed in September, 23.7%, an increase since January’s 23.2%.
– “[P]art of the [job] growth came from a surge in the number of people taking part-time jobs because full-time slots weren't available. That suggests employers continue to be reluctant to expand in the face of threats to the U.S. and global economies, including deteriorating conditions in Europe and the prospect of year-end spending cuts and tax increases in the U.S
- The Wall Street Journal, October 5, 2012
Underemployment
– BLS shows 14.6% of American workers in October were either unemployed or working part-time, but wanting full time work.
– 40.1% of unemployed in September had been out of work for at least 27 weeks.
– The long-term unemployment rate has remained at or above 40 percent every month since March of 2010.
– “Never before in the postwar period have the unemployed been unemployed for so long.”
- Federal Reserve Bank of Richmond
Page 16
Economic Indicators
Residential real estate
– “Sales of previously owned U.S. homes in March unexpectedly fell for the third time in the last four
months, showing an uneven recovery in the housing market.” - Bloomberg, April 19, 2012
– “Many homeowners who would like to sell their home are not placing them on the market because they are worried home prices might dip again. Others can't sell because they are underwater on their mortgage, meaning they owe more than their home is worth.”
- Huffington Post, September 5, 2012
– “While property markets across the country rose together during the housing boom and fell together during the crash, new data analyzed by real-estate firm Zillow Inc. for The Wall Street Journal show that markets are exiting the downturn at different speeds.”
- The Wall Street Journal, June 20, 2012
Most recent GDP growth numbers were discouraging. First quarter was 2%, down from 3.0 for Fourth Quarter 2011. Second quarter growth was a dismal 1.3%. Third quarter was a little better at 2.2%.
-Commerce Department, September 27, 2012
Page 17
Is the U.S. Recovery in Free Fall?
"US risks tepid recovery turning into recession,
IMF warns"
- The Telegraph, July 3, 2012
Page 18
CEOs Pessimistic Economic Outlook
CEOs envision slower economic growth for 2012 and have lowered expectations for sales, and hiring.
More CEOs expect hiring to decline in the next six months than think that hiring will increase, 34% versus 29%.
Fewer CEOs think sales will increase in the next six months, 58% in Q3 versus 75% in Q2.
Debt Crisis in Europe continues to have negative effect on U.S. economy.
“Sales are going down fast in Europe,”
Jim McNerney, Chairman Business Roundtable
Fiscal Cliff becomes more worrisome at year-end grows closer.
“The closer you get, the more nervous you get,”
Jim McNerney, Chairman Business Roundtable
Source: Business Roundtable CEO Economic Outlook
Page 19
Déjà vu all over again ?
“If history is a guide, the odds that the American economy is
falling into a double-dip recession have risen in recent weeks and
may even have reached 50 percent… The United States appears to
have entered some version of the vicious cycle. Most ominously,
job growth has slowed to a pace that typically signals the start of a
recession."
- New York Times, September 8, 2011
“The U.S. economy is in a vicious cycle in which countless
interventions and bailouts have resulted in distorted financial
markets… The labor market still isn’t growing at a sustainable
pace that keeps up with population growth.”
- The Wall Street Journal, July 11, 2012
Page 20
The Debt Ceiling Deal
Page 21
Agreement to Increase the Debt Limit
$900 Billion Initial Increase in the Debt Limit
– Increased in two tranches: $400 billion and $500
billion
– $500 billion occurs if Congress doesn’t block it
$917 Billion in Spending Cuts tied to Initial Increase
Bill created a “Congressional Joint Select Committee
on Deficit Reduction” (a.k.a. “Super Committee”) to
locate up to $1.5 trillion in additional deficit reduction
If Committee failed to locate at least $1.2 trillion in
savings, across-the-board cuts kick in but not until
January 2, 2013.
Page 22
Outcome of the Super Committee
Super Fail – USAToday, November 22, 2011
Deficit Panel Folds Its Tent – The Wall Street Journal, November 22, 2011
Super committee rests in pieces – The Christian Science Monitor, November 22, 2011
Deficit supercommittee announces failure – The Washington Times, November 21, 2011
Supercommittee Failure PosesThreat to U.S. – Bloomberg, November 22, 2011
Short Term Consequences
NOT MUCH
Page 23
Putting the Debt in Perspective for Fiscal Year 2011
U.S. Tax Revenue: $2,314,000,000,000
Federal Budget: $3,597,000,000,000
New Debt: $1,283,000,000,000
National Debt: $14,698,625,550,307.37 (and counting)
Budget Cuts: $38,500,000,000
Source: The Congressional Budget Office, Treasury Department’s Bureau of Public Debt
Page 24
Drop 8 Digits, the Debt becomes a Family Budget
Annual Family Income: $23,140
Money Family Spent: $35,970
New Credit Card Debt: $12,830
Credit Card Balance: $146,986.37 (and counting)
Budget Cuts: $385
Page 25
The Real Kicker
“A federal budget compromise that was hailed as
historic for proposing to cut about $38 billion would
reduce federal spending by only $352 million this fiscal
year, less than one percent of the bill’s advertised
amount, according to the Congressional Budget
Office.”
- The Washington Post, April 14, 2011
Page 26
Translation:
The Family Budget was cut by $3.85, not $385
Page 27
President Obama’s Deficit-Reduction Plan Uncovered
The Promise:
“It’s a plan to reduce our debt by more than $4 trillion.”
- President Obama, September 19, 2011
Page 28
President Obama’s Deficit-Reduction Plan Uncovered
The Reality:
The plan INCREASES the deficit by
$3.049 TRILLION
Page 29
President Obama’s Deficit-Reduction Plan Uncovered
The Math:
$4.850 trillion: Deficit-reduction purported in the President’s plan
Minus: $5.109 trillion: Tax cuts and spending increases the President seeks that are not in current law
Minus: $1.084 trillion: Troop withdrawal savings in the plan already anticipated
Minus: $1.349 trillion: Deficit-reductions included in the President’s plan that already have been enacted into law
Minus: $ .357 trillion: Additional Interest Expense on the Debt
____________
Equals:$ 3.049 trillion DEFICIT INCREASE
Page 30
Entitlements Drive the Debt Higher
Source: The Wall Street Journal
Page 31
Federal Revenues Are Depressed As Well
Revenues as a percent of GDP have averaged 17.8
percent since 1950
Revenues as a percent of GDP have been at their
lowest level since 1950
FY- 2009 - 15.1%
FY- 2010 - 15.1%
FY- 2011 - 15.4%
FY- 2012 – 15.7%
Page 32
Tax and Budget Outlook
Massive Tax Uncertainty
Deficit Reduction / Tax Reform
Page 33
Sophisticated Discussion on Tax Reform?
The current tax code “is kind of screwy.”
President Barack Obama, April 6, 2011
Page 34
Expiring Tax Provisions
January 1, 2013:
– Top individual rate remains at 35% through 2012.
– Bottom rate stays at 10%.
– Other marginal income tax rates also stay at 2010 levels.
– Top capital gains and dividend tax rates remain at 15% through 2012.
– Estate tax returns at 35 percent rate with a $5 million exemption
instead of $1 million exemption and a top rate of 55% rate, but only
through December 31, 2012.
Cost of extending 2001 and 2003 Tax Act cuts: $3.312 trillion (FY 2010-19).
Individual AMT:
– Temporary “patch” extended through 2011.
– Permanent patch at inflation-adjusted 2009 levels would cost $447
billion (2010-2019).
Page 35
Pending Federal Tax Increases
Current Law Tax Increases to Take Effect in 2013 (includes effect of (1) higher top marginal ordinary income tax rate, (2) expiration of
qualified dividend tax rate, (3) expiration of reduced long term capital gains tax rate,
(4) imposition of higher Medicare tax)
Type of Income Top Rate
in
2011
Top Rate
in
2013
Percent
Change
In Rates
Earned Income 37.9% 43.4% 18.33%
Unearned Income (except Qualified Dividends
and Long Term Capital Gains)
35%
43.4%
27.4%
Qualified Dividends 15% 43.4% 197.3%
Long Term Capital
Gains
15% 23.8% 66.7%
Page 36
Pending Federal Tax Increases (continued)
Page 37
“Congress risks taking the economy over a ‘massive fiscal cliff,’
Federal Reserve Chairman Ben Bernanke warned lawmakers on
Wednesday.
In remarks that hit Wall Street stock prices, the central bank
boss suggested the economy could hit a serious roadblock if
Congress allows the Bush tax rates and payroll tax cut to expire
and $1.2 trillion in spending cuts to be implemented
simultaneously in January.”
- The Hill, March 1, 2012
Page 38
Common Theme: Tax Expenditures
Page 39
Prime Targets
Tax Expenditure for Individuals Estimated Cost (2010 – 2014)
Health Care Exclusion $ 659 billion
Home Mortgage Deduction $ 484 billion
Reduced Taxes on Investments $ 402 billion
Defined Benefit Plans $ 303 billion
Earned Income Credit $ 268 billion
State and local, Sales Tax,
and Property Tax Deductions $ 237 billion
Defined Contribution Plans $ 212 billion
Charitable Deductions
(excluding Health and Education) $ 187 billion
Medicare – Hospital (Part A) $ 175 billion
Social Security/RR Retirement $ 173 billion
Cafeteria Plan Exclusion $ 163 billion
Inside Buildup $ 149 billion
Joint Committee on Taxation “Estimates of Federal Tax Expenditures for Fiscal Years 2010-2014,” December 15, 2010
Page 40
Prime Targets
Corporate Tax Expenditures Estimated Cost (2010-2014)
Deferral of active income of controlled foreign corporations $ 70.6 billion
Exclusion of interest on public purpose State and local government debts $ 45.3 billion
Deduction for income attributable to domestic production activities $ 43.2 billion
Inventory property sales source rule exception $ 38.0 billion
Depreciation of Equipment in excess of alternative depreciation system $ 37.1 billion
Inclusion of income arising from business indebtedness
discharged by the reacquisition of debt instrument $28.8 billion
Tax Credit for low-income housing $ 27.0 billion
Expensing of research and experimental expenditures $ 25.6 billion
Inventory methods and valuation: Last in first out $ 20.0 billion
Reduced rates for first $10,000,000 of corporate taxable income $ 15.9 billion
Joint Committee on Taxation “Estimates of Federal Tax Expenditures for Fiscal Years 2010-2014,” December 15, 2010
Page 41
Election Outcome
Page 42
2012 Election Outcome: President
President Obama wins re-election
Electoral Vote:
Obama 303*
Romney 206 *Obama has a slight lead for Florida’s 29 Electoral Votes, which have not yet been
awarded.
Popular Vote:
Obama 50% (60,144,795 votes)
Romney 48% (57,443,964 votes)
Page 43
National Electoral College Results
Obama
Romney
270 votes
needed to win
303 Obama
206 Romney
2012 Electoral
Map
29 Unknown
Obama
Romney Barack Obama (D)
Mitt Romney (R)
Unknown
12
7
55
6 6
4
10 5
9
3
3
3
3
3
5
7
6
HI 4
38 8
6
10
6
10 10
20 11
16
18
8
9
NH 4 MA 11
CT 7 RI 4
NJ 14
DE 3 MD 10
DC 3
VT 3
29
16
4
6
15
29
20
9
11
13 5
Page 44
National Popular Vote Results
173 Romney
Romney
Obama
55%
54%
57%
52%
62%
HI 72%
55%
73%
67%
55%
69%
51%
53%
58%
58%
61%
60%
67%
54%
52%
53%
52%
53%
57% 54% 50%
61%
59%
61%
57% 59%
55% 61% 53%
55%
51%
51%
52%
62%
VT 67% 56%
NH 52%
MA 61%
CT 57% RI 63%
NJ 58%
DE 59%
MD 61% DC 91%
Barack Obama (D)
Mitt Romney (R) 50% 100%
Unknown
2012 Popular Vote Map
62%
National Total
• 50% Obama
• 48%
Romney
Page 45 Source: Exit polls results available at http://www.cnn.com/election/2012/results/race/president#exit-polls
2012 Presidential Election Votes by Demographic
Voted for Obama Voted for Romney
Gender Women 55% 44%
Men 45% 52%
Race
White (non-Hispanic) 39% 59%
Black 93% 6%
Hispanic 71% 27%
Education Non-College Graduate 51% 47%
College Graduate 50% 48%
Age
18 to 29 years 60% 37%
30 to 44 years 52% 45%
45 to 64 years 47% 51%
64+ years 44% 56%
Income
Less than $50,000 60% 38%
$50,000 to $100,000 46% 52%
$100,000 or more 44% 54%
Page 46
2012 Election Outcome: Senate
Democrats pick up Republican seats in ME, MA, and IN
Republicans pick up Democratic seat in NE
Democrats Republicans
Current (112th)
Congress 53
(includes one independent
caucusing with D’s)
47
Incoming (113th)
Congress 55
(includes two independents
expected to caucus with D’s)
45
Page 47
2012 Election Outcome: House
Republicans easily retain control of the House. Democrats needed a net
gain of 25 seats. With 12 seats yet to be decided, Republicans thus far
have lost a net of only two, a total that is unlikely to increase more than a
very few seats, if at all.
Despite the huge gain of 63 seats in 2010, which often portends loss of
marginal seats in the next election, Republicans suffered only modest
losses.
Democrats made very few inroads outside CA, IL, NY, and NH, which were
largely offset by scattered GOP gains.
Republicans Democrats
Current (112th) Congress (figures include 5 vacancies)
240 190
Incoming (113th) Congress *12 seats not yet called
232* 191*
Page 48
How Popular is Congress?
Page 49
Real Clear Politics: 13.8% approve of how Congress is handling its job while 79.6%
disapprove, Aug 5 – Sept 17
Page 50
How is Congress Doing?
The Bottom of the Barrel
Degree of Confidence
The Military: 78%
Small Business 64%
The Police 56%
The Church 48%
Hospitals 39%
Supreme Court 37%
The Presidency 35%
Justice System 28%
Newspapers 28%
TV News 27%
Banks 23%
Labor 21%
Big Business 19%
HMOs 19%
CONGRESS 12%
Gallup, June 23, 2011
Page 51
What Were the Possible Game
Changers
Page 52
Game Changers for 2012
Euro Zone Meltdown
Iran Nuclear Activity
North Korea
China Economy
Middle East Unrest
Natural Disasters
Terrorist Attack
Presidential Debates
Page 53
Fast and Furious
Solyndra Bankruptcy
General Services Administration – “It didn’t stay in
Vegas”
Cartagena - Gate
Page 54
Page 55
Predictions