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June 2012 | See all news in this issue

Massive federal spending cuts are coming…

There’s a lot of attention being focused these days on the Bush-era federal income tax cuts that will expire on December 31 of this year unless Congress and the President take steps to extend these tax provisions.

The spotlight has been on individual tax rates, which will go up about 3% across the board, and a return to lower deductions and exemptions that will result in higher tax bills for most families.

There’s been much less focus, however, on the expense side—a massive $2.1 trillion reduction in federal spending that was mandated in last summer’s agreement to raise the federal debt in order to avoid a possible default by the U.S. government. The first wave of those mandatory cuts will take effect on January 1, 2013, the same day the Bush tax cuts expire.

About $900 billion of the $2.1 trillion in cuts was included in the budget legislation, with defense spending absorbing about half. That left the remaining $1.2 trillion up to a bipartisan “super-committee” of 12 legislators, who would propose the reductions for Congress to approve. However, the “super-committee” couldn’t reach an agreement and Congress never approved any further spending cuts.

That means that the remaining $1.2 trillion start to take effect automatically—so called sequestration—under formulas established in the budget legislation.

The nonpartisan Congressional Budget Office (CBO) says that unless Congress and the White House act before the end of 2012, this historic number of tax hikes and spending cuts could pull more than $600 billion out of the economy next year and drag the country back into recession, cutting growth by about 1.3 percent. The CBO went on to say that canceling those tax and spending changes would encourage resurgent economic growth of around 4.4 percent in 2013.

Every business will be affected…

This is more than a noisy political issue. Behind the headlines about higher taxes and lower spending will be seismic changes in the country’s economy.

The impact of these federal spending cuts would start with predicted major layoffs for government contractors of all types—and particularly for defense contractors and the tens of thousands of small firms that sell them products and services. A study by the Bipartisan Policy Center said that one million or more jobs could be lost as a result of the spending cuts alone. The jobless rate can be expected to surge upward, according to the CBO, putting more pressure on an already delicate economy and negatively impacting consumer spending.

These predictions of dire consequences are likely to result in a last-minute agreement to defer the mandatory spending cuts or to reduce their scope. At the same time, Congress is expected to retain at least some of the Bush tax cuts, either during a Lame Duck session after the elections or early next year. But nothing is certain in this era of political confrontation and extreme partisanship.

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