The U.S. fiscal cliff refers to the combination of two events that will occur in late 2012 and early 2013: (1) implementation of federal budget cuts resulting from the compromise to extend the U.S. federal debt ceiling and (2) expiration of many of the tax cuts enacted since 2000. The name, “fiscal cliff,” stems from the widely-held concern that these two actions may cause an economic recession. However, the fiscal cliff is actually a symptom, not the problem.

Underlying Problem

The U.S. has been using fiscal spending and tax policy to stimulate the U.S. economy. This stimulus, in particular the second set of so-called Bush tax cuts, pre-dates the financial crisis of 2007, but the stimulus expanded substantially with the Economic Stimulus Bill of 2008.

Between 2007 and 2012, federal spending increased from $2.7 trillion to $3.5 trillion. In contrast, federal tax receipts actually decreased from $2.6 trillion to $2.4 trillion. A key reason for stagnate tax revenue is that deflated U.S. gross domestic economic product has increased by only 3% in total since 2007, from $13.2 trillion to $13.6 trillion.