8 fiscal strategies for a long life

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| By Philip Moeller, U.S. News & World Report

Americans are living longer than ever before, and that means retirements last longer, too. Here are 8 tips for a long, financially healthy retirement.

Americans' continuing longevity gains may be the ultimate good-news-bad-news story of our time. The longer we live, ironically, the higher our stress levels rise about outliving our money, enjoying a good retirement and being able to afford long-term care expenses.

Our retirement savings are already inadequate. Health care costs continue to soar. And the major programs that help us afford our later years -- Social Security and Medicare -- face cuts to help balance the federal budget. No wonder retirement confidence surveys continue to find us largely depressed about our financial futures, even as stocks rally and the economic recovery appears to finally be picking up some steam.

For folks already at retirement age, life expectancies have continued to increase. A 65-year-old man is expected to live, on average, another 17.6 years. A 65-year-old woman would live, on average, another 20.3. In recent years, these figures have been rising by one or two tenths of a percent each year. It should be stressed that these are averages. The ranks of the "old old" -- people age 85 and up -- are soaring.

Here are eight strategies to help you enjoy your later years and take advantage of the medical and lifestyle changes that are helping us live longer and longer.

1. Cut current consumption. There is no way around it. You should seriously consider foregoing spending today so the dollars will be there for you tomorrow. Increasingly, we understand the long-term challenges of retirement, and believe we've entered a "new normal" period that will require downsizing and sacrifices. We may have changed our perceptions but we have not changed our retirement planning and savings behaviors nearly enough.

2. Maintain more aggressive investment portfolios. Target-date funds got slammed during the market meltdown for being overly invested in stocks. These funds are designed to reflect "best thinking" about the needs of people in different age groups, and have become the leading default investment choices in 401k plans. Despite the criticisms, the managers of many target-date funds argue that longevity gains require older investors to keep higher percentages of their retirement funds in stocks and other higher-earning, higher-risk securities. Stocks are coming off a great first quarter and bullish sentiment is ascendant on Wall Street.

3. Inflation-proof your life. The impact of inflation, even at low annual rates, can be devastating to fixed incomes over the increasingly long life spans that many of us will have. Think hard about sacrificing some current investment returns in exchange for TIPS (Treasury Inflation Protected Securities) and other yield-sensitive holdings that will help your returns keep pace with future rates of inflation. Do some contingency plans for a high-inflation future. What would your annual spending needs look like if inflation averaged 3 or 4 percent a year, instead of the 1 to 2 percent we've been seeing?

4. Hit the gym. Chronic health conditions are the greatest physical and financial threats of old age. There are no surefire ways to prevent these problems, but taking better care of ourselves is the best -- and cheapest -- way to reduce the odds of facing devastating illnesses in later life. You already know this, of course.

5. Extend insurance coverage. Living longer means we'll need to protect ourselves and loved ones for longer periods of time. Maybe you thought your life insurance could wind down when your kids were grown, or when you hit your seventies. Think again.

6. Long-term care expenses. Imagine yourself at 85. Even a healthy 85-year-old will likely need some at-home or institutionalized care. How will you protect yourself and your family from devastating long-term care expenses? For starters, look into insurance, at least to understand what it covers and whether it makes sense for you. If you want to stay in your home for a long time, honestly assess what you need to do to make your home the kind of place that will accommodate your changed physical needs in 10 or 20 years.

7. Longevity insurance. Might it make sense to buy an annuity that doesn't begin making payments until you turn 85? You can get one for a good price, because insurers rightly figure the odds are decent that you won't survive to the age of 85, or much beyond that mark. If you knew there would be a stream of income kicking in when you turned 85, you could plan to spend down your other assets by that time and not worry about outliving your money.

8. Financial planning for women. Women face much greater retirement and longevity risks than men. Not only do they live longer, but the deaths of their husbands usually place them at a financial disadvantage. This is especially true for women who have had careers and pull down solid Social Security benefits. Dual-earning households can receive two decent Social Security payments each month. But when one spouse dies, only the higher of the two benefits can still be received. This can sharply reduce the household income of the surviving spouse. Because that's usually a woman, it makes sense to plan today for at least several years of widowhood.

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Small businesses, which are still the feeling of 'fiscal Cliff' pinch

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SIA wee, CNBC.com - 5 days

Small business confidence was virtually flat in January as the contractor failed to recoup losses from the in the December hysteria over the so-called "fiscal cliff."

This is the finding of a monthly survey by the National Federation of independent business. The group said on Tuesday that its small business optimism index only 0.9 points to 88.9 last month from 88 points in December 2012 lined.

Although a tax deal was reached in January of tax increases and spending cuts, the benefits are hard for a large part of the main road remained - a traditional driver of new jobs in the last economic downturn. (Read more: in the middle of 'Fiscal Cliff' deteriorating stalemate, main street)


"The only good news is that it ', moves not down'." If small businesses publicly traded companies, the stock market in a shambles,"said NFIB Chief Economist Bill Darling. "While the corporate profits as share of GDP at record levels, small businesses fight make still make a profit" he sadly prepared statement in one.

The current monthly reading among small business owners showed kick-off also low expectations for future growth - clearly no good way, 2013.

Expectations for improved terms and conditions remained generally low. Create actual creation of jobs and job wasn't enough to keep pace with population growth improved nominally, but plans yet.

The NFIB also noted that sales trends, reporting declining sales mostly remain negative for small employers with more owners.

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How the fiscal cliff deal will hit your taxes

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John W. Schoen , NBC News

Yes, your taxes are going up. But you dodged a much bigger bullet.

Those increases are relatively modest compared to what the fiscal cliff would have imposed, however.The last-minute ‘fiscal cliff’ deal to reverse Congress’ ruinous, self-inflicted package of federal tax increases and spending cuts will raise the average American household’s tax bill by $1,250 this year, or about $25 a week.


For most Americans, the biggest impact will come from the expiration of a two-year payroll tax “holiday” enacted two years ago to boost the economy. That tax break amounted to two percent of wages.

“For a lot of people the increased withholding from payroll tax expiration will be significant and they’ll really see that and feel that as a legitimate tax increase,” said Joseph Rosenberg, an analyst at the Tax Policy Center. “But there was a lot of tax relief that has been extended."

Without a deal, taxes would have jumped by more than $500 billion in 2013 as almost every tax cut enacted since 2001 was set to expire. That would have cost the average household almost $3,500 per year, or about $67 a week, according to the Tax Policy Center.

The deal hammered out in the waning days of 2012 preserves most of those tax cuts – except on the very top of the income ladder. Even then, the final deal raised the definition of “wealthy” from $250,000 for couples ($200,000 for individuals) to $450,000 for couples ($400,000 for individuals). Those thresholds also apply to many small businesses that pay taxes at individual rates.

The averages, though, apply to a statistically tiny group of people who fall in the middle of every variable in the new law. Thanks to dozens of provisions that will hit different households making the same income in different ways, your overall tax bill will almost certainly change by more – or less – than $25 a week.

You won’t really know until you fill out your 2013 tax return a year from now. But here are some of the ways your tax bill may change:

PAYROLL TAXES: The most immediate, and visible impact will be a relatively small increase (about two percent of your wages) that will come out of your first paycheck of the year. You’ll keep paying that “extra” tax until you’ve reached the wage limit subject to the tax, which this year rises to $113,700. (This tax shows up in the FICA line on your paycheck.) If you hit that limit before the end of the year, you stop paying the tax.

Though you’re paying more than last year, your payroll tax rate is now back to where it was in 2009, before Congress and the White House cut the tax to help boost the economy. That measure added about $20 a month to the average household’s spending power. Now, the government wants that money back to help close the deficit.

INCOME TAXES: Though taxes are going up a bit, all but the wealthiest households dodged the biggest fiscal cliff tax bullet: the expiration of the Bush-era tax cuts. Many economists feared that if those cuts were reversed all at once, the resulting dramatic tax increases would have siphoned off billions of dollars in consumer spending that would have sent the U.S. economy back into recession.

The new law left income tax rates alone, except for the new top bracket above $400,000 for individuals ($450,000 for couples) who will now pay 39.6 percent on every dollar over that amount, up from the current 35 percent. (They’ll pay the lower rates on money earned in lower brackets, just like everyone else.)

CREDITS AND DEDUCTIONS: Some upper-income households will also pay more because they’ll lose some of their tax breaks on itemized deductions for things like mortgage interest. Those will now be capped for individuals making more than $250,000 (couples more than $300,000.) They’ll also see their $3,800 personal exemption – the tax break everyone gets – phased out.

Parents will get to keep a $1,000 child tax credit that had been set to drop to $500. The new law also reversed a $600 cut in the $3,000 credit for child and dependent care that was due to take effect. Parents will continue to get the up-to-$2,500 tax credit for college tuition that was set to be cut.

CAPITAL GAINS, DIVIDENDS: Money you earn from capital gains or dividends on investments will still be taxed at 15 percent – unless your total income is more than $400,000 for individuals ($450,000 for couples. Those in the top bracket will now pay 20 percent – up from 15 percent.

Dividends and gains on investments held in a qualified account like a 401(k) will still be deferred until you withdraw the money when you retire. The new law also preserved increased limits for how much you can contribute tax-free.

ALTERNATIVE MINIMUM TAX: This stealth tax monster, which had threatened some 28 million unsuspecting households in 2013, has been permanently killed. Originally designed as a separate set of rules to close tax loopholes for “wealthy” families, the law’s architects forgot to take inflation into account, pushing more and more middle-income households into its path every year.

For years, Congress has “patched” the law at the last minute to save its new victims from an average $3,000 tax bump. The process also overstated how much the government collected because “official” estimates assumed it would be collected.

The new law makes that patch permanent. But that also means the budget now reflects the loss of those revenues, widening “official” deficit estimates.

DOCTOR FEES: Congress has also relied on a similar accounting gimmick with Medicare fees paid to doctors which are “cut” every year for bookkeeping purposes – and then “patched” at the last minute. The new law restores those cuts – which would have surgically removed 27 percent of your doctor’s Medicare income this year – but only for 2013. So you doctor still faces the prospect of a 27 percent cut in 2014.

UNEMPLOYMENT BENEFITS: Since the recession, Congress has added several “tiers” of extended unemployment insurance for jobless workers. The fiscal cliff would have eliminated extended benefits for those out of work the longest. The new law keeps them in place – but only for one year.

Low-income families also dodged cuts in the earned income tax credit that were set to take effect in 2013.

ESTATE TAXES: The fiscal cliff was also set to take a big bite out of money passed from one generation to the next. Last year, estates of up to $5,120,000 (per person) were exempt from federal tax, which then kicked in with a top rate of 35 percent for amounts over that. The fiscal cliff would have cut the tax-free limit to $1 million per person and raised the top rate to 55 percent.

The new law preserved the $5 million tax-free threshold and raised the top tax rate to 40 percent.

Though many of the deep ‘fiscal cliff’ spending cuts were postponed in the new law, Congress has yet to complete work on that side of the budget ledger, leaving a number of federal programs in play that could affect household budgets.

And while many of the just-enacted tax provisions are “permanent,” it remains to be seen how long they remain in force.

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'Fiscal cliff' talks loom over Wall Street

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Patti Domm , CNBC.com

Holiday shopping could be a bright spot for the stock market, but both could soon stall if lawmakers don't make progress on the “fiscal cliff” when they return in the coming week.

Congressional leaders and President Barack Obama have said they expect compromise when making a deal to stop the $500 billion wave of higher taxes and automatic spending cuts from hitting the economy early next year.

But many on Wall Street are betting Congress will resort to its fractious ways before a deal is reached, and that could upset the stock market — and holiday shoppers, particularly those at the high end.

“This is part of the thesis for some of us who are talking about a fourth-quarter slowdown,” said Daniel Greenhaus, global market strategist at BTIG. “Part of that thesis is consumers are on the verge of seeing their taxes adjusted in January. Is it going to affect their behavior? As you get closer to Christmas, and spending accelerates, how much of that spending will be curbed?”

There is a batch of consumer-related data in the coming week, most of it housing data, with home prices on Tuesday, new-home sales Wednesday and pending home sales on Thursday.

As housing has improved, so have consumer attitudes, but the impact of Super Storm Sandy could make data look temporarily weaker. Consumer confidence and durable goods are reported on Tuesday.

“It’s going to be all fiscal cliff. There’s going to be a lot of housing data, but there will be leaks and unconfirmed quotes, and how the conversations are going will matter,” said Greenhaus.

Black Friday, and in fact, late Thanksgiving Thursday, was the start of the Christmas holiday shopping season, and early reports were strong.

Wal-Mart said it had its best Black Friday events ever this year, starting at 8 p.m. ET Thursday. Between 8 p.m. and midnight Thursday, it said its stores rang 10 million register transactions and nearly 5,000 items per second.

Stocks rallied Friday, the first positive Black Friday since 2008.

The Dow jumped 172 points, and was 3.4 percent higher for the week at 13,009, its highest close since election day. The S&P 500 jumped 3.6 percent for the week, to 1409, and the Nasdaq was up nearly 4 percent at 2966.

Consumer discretionary stocks were up 4.4 percent for the week, one of the best performers, and the sector was the best performer since the start of November, up 2.3 percent against declines in most other sectors. Chain stores will provide a look at the holiday sales in their November sales reports, expected to be released Thursday.

Dana Telsey, CEO and chief research officer at Telsey Advisory Group, said she expects holiday sales to be up 3.5 to 4 percent this year.

“If you have to say will it be better or worse than expected, it will be better,” she said, adding there are more “must have” gifts at higher price points this year.

While Black Friday shopping is important, she said the real make-or-break period is the last 10 days before Christmas, which accounts for 40 percent of sales. The key day, then, is the second to last Saturday before Christmas.

The timing of that is just about when Congress should be in the throes of fiscal cliff talks, and it could be a dramatic time. Telsey said the way the talks are covered in the media could have an influence on shoppers.

“There’s much more effect on the high end,” she said.

Taxes are going to go higher for the wealthy, no matter what kind of deal is reached.

There is an automatic 3.8 percent tax, resulting from the Affordable Care Act, on investment income for those couples earning $250,000 or more, and another 0.9 percent tax on each dollar earned above that threshold. The 2 percent payroll tax holiday is expected to expire for all tax brackets.

“Everybody’s paycheck goes down 2 percent next year," said Greenhaus. "That really hits home.”

What’s not clear is whether the top tax rates will be raised, as sought by Democrats, or whether other revenue sources will be found, such as reduced deductions, a path suggested by some Republicans.

The expected increase in capital gains and dividend taxes are still unknowns, but they have already hit some stocks. The dividend-paying utilities sector was the only negative major S&P sector this past week, down close to 1 percent, and it’s the worst performer since the beginning of November, down more than 8 percent.

Analysts are split on whether the market will be able to keep rallying, and they say whether there will be a “Santa Rally” this year depends on Congress.

Greenhaus said the uncertainty makes it impossible to predict the outcome, and therefore stock reaction. “You just don’t know what form and what shape this takes,” he said. “If it drags on as I expect it to, another five percent on the downside is a fair assumption."

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'Fiscal cliff' deal would limit deficit reduction

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John W. Schoen , NBC News

As Congress and the White House settle in to a new round of talks over the federal budget, there are no good choices. If there were, the impasse would have been resolved a long time ago.

But as both sides vow to reach a compromise, it’s becoming clear that any bipartisan agreement will fall far short of the current law in cutting the $1.1 trillion federal deficit.

The current budget law that created the so-called “fiscal cliff” was written in a high-stakes moment in July 2011 as an impasse over raising the federal debt ceiling left the Treasury just days away from defaulting for the first time in history. The law’s architects, who well understood the dire consequences of allowing massive tax hikes and spending cuts to take effect, created the law as a club to force action after the November election.

Now that the election is over, leaders of both political parties have expressed the desire to come to an agreement and end the long deadlock.

But with the composition of Congress largely unchanged, any tax hikes and spending cuts both will likely be far smaller than what each side might want.

"The split in Congress will force both sides to bargain,” said economist Paul Ashworth of Capital Economics. “We expect the Democrats to agree to extend the Bush-era (tax cuts) for higher income earners in exchange for Republicans agreeing to put off the spending cuts."

On Sunday, Sen. Bob Corker, R-Tenn., expressed confidence that a deal could be reached, and Obama aide David Axelrod hinted at compromise on raising tax rates on the rich, a key White House priority.

House Speaker John Boehner, R-Ohio, last week opened the door to compromise on his party's commitment to not raise tax rates, saying he would support changes in the tax code that bring in more revenue.

Obama has invited congressional leaders to the White House on Friday to discuss the issue.

There had been hope that last week's election might break the longstanding political deadlock that has thwarted action. Republicans hoped to gain control of both the Senate and White House, the better to fulfill promised deep spending cuts. If Democrats had been able to gain control of both the House and Senate, they would have faced less opposition to tax hikes.

The continuing divided control in Washington means that a successful bipartisan agreement will have less to do with deficit reduction than with dodging the political backlash that would ensue if automatic spending cuts and tax hikes are allowed to take place, potentially sending the economy back into recession next year.

Unless amended, the current law ends Bush-era tax cuts, raising taxes by roughly $330 billion at a cost of about $3,500 for every household. Also on the block is the Obama administration's two-year payroll tax cut, which would cost wage earners another $95 billion. Other provisions, including the elimination of a deduction for sales tax, would raise taxes by another $65 billion.

Spending cuts in the law include a $55 billion or 9 percent cut in the defense budget next year and another $55 billion in cuts to domestic programs, including a 2 percent or $11 billion cut to Medicare providers. Long-term unemployment benefits would by cut by $26 billion.

While painful, those measures - if left in place - would only cover roughly half the annual federal budget gap.

All of which means that as the odds of meaningful deficit reduction grow slimmer as both sides move closer to a compromise.

Democrats, including President Barack Obama, have said any compromise should include higher taxes on the top earners who make more than $250,000 a year. But that would raise only about $42 billion, according to the Congressional Budget Office. That amounts to about 3 percent of the annual deficit.

Balancing the budget with spending cuts has proven even harder, largely because so much of the budget is devoted to historically “untouchable” categories like defense and direct payments to taxpayers. Social Security, Medicare and defense spending consume 60 cents of every tax dollar. Add pensions for federal workers and veterans, safety net programs like unemployment insurance and interest on the debt, and there’s roughly 20 percent of the federal budget left open to cutting.

That’s why Congress has made so little progress over the years finding ways of postponing the tax hikes and spending cuts required to bring the budget into balance.

In the short run, the cost of delay may not be so dire.

Despite the dire warnings of sudden fiscal impact, the cliff is more like a slope, as the economic impact would be felt gradually.

The average U.S. household would see a tax increase of about $68 a week, adding up to $3,500 if Congress fails to act over the full year.

On the spending side, most government agencies facing cuts have broad discretion on how they phase them in over the remainder of the fiscal year, which ends Sept. 30. If Congress and the White House don’t reach a deal by Jan.1, some agencies could decide to continue spending at current rates, with the expectation that a deal would be reached sometime next year that to pare back spending cuts – or postpone them altogether.

Congress has also bought time with the help of the Federal Reserve, which responded to the financial collapse of 2008 by slashing interest rates to record lows. Just as homeowners have saved tens of billions of dollars on lower mortgage rates, the federal government has seen its cost of borrowing fall sharply – even as the size of the debt has increased.

In fiscal 2008, the Treasury spent $451 billion in interest on roughly $10 trillion in public debt outstanding. For the fiscal year that ended Sept. 30, Uncle Sam paid just $360 billion to service debt of more than $16 trillion.

But the Federal Reserve can’t keep rates low forever. Those low rates rely heavily on investors’ belief in the safety of U.S, Treasury debt, which faces another downgrade if rating agencies decide the government has lost control of its finances. If investors stop buying U.S. bonds, borrowing costs could rise and the value of the dollar would fall.

So while some have suggested that the economic threat of fiscal cliff has been overstated, the potential financial disaster of expanding deficits is very real, according some financial analysts, including Peter Schiff, CEO of Euro Pacific Capital.

“That disaster will take the form of a dollar and/or sovereign debt crisis that will make the fiscal cliff look like an ant hill,” he said.

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Fiscal cliff blues may lead to market correction

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Reuters

Wall Street's post-election sell-off may gather steam in the coming weeks as worries mount about the looming fiscal cliff and technical weakness suggests a possible correction ahead.


The benchmark Standard & Poor's 500 closed below its 200-day moving average - a measure of the market's long-term trend - on Thursday for the first time in five months, and ended below it again on Friday. More than half of the Dow components are trading below key technical levels.

"I don't think you have to panic here, but I think you really want to be looking for the market to move lower for the next couple of months," said Frank Gretz, market analyst and technician for Wellington Shields & Co., a brokerage in New York. "I think the next rally is the rally you want to sell."

At the heart of the market's worry is whether U.S. leaders can come to agreement on some $600 billion in spending cuts and tax increases that are due to kick in early next year. Some fear dramatic cutbacks could send the U.S. economy into another recession.

The prospect of higher tax rates in 2013 is driving investors to sell shares as they seek to decrease the tax impact from their positions this year and next.

"You would have thought the fiscal cliff scenarios would have been already mulled over and priced in, but they weren't. It's almost like the market has ADD and can only focus on one thing at a time," said Natalie Trunow, chief investment officer of equities at Calvert Investment Management in Bethesda, Maryland, whose firm manages about $13 billion in assets.

The S&P 500 fell 2.4 percent for the week, its worst weekly percentage drop since June. The index is now down 6.4 percent from its intraday high for the year of 1,474.51 reached on September 14. That drop puts the benchmark index below its 50-day moving average, but not yet into correction territory, defined as a 10 percent drop from a peak.

Reading the technical signs
The S&P 500 has been trading in a range between the 50-day moving average of 1,433.50 and the 200-day moving average of 1,380.98 for about two weeks. A significant break below that lower level could be a precursor to further weakness, analysts said.


"There's a technical breakdown in the market that indicates further losses," said Adam Sarhan, chief executive of Sarhan Capital in New York. "A 10 percent drop is the next big line in the sand."

The primary driver of stock prices in coming weeks looks likely to be investor concern about the U.S. fiscal situation.

In a sign of the risks involved, comments by President Barack Obama on Friday about the upcoming negotiations caused stocks to sharply cut their gains.

The president, who defeated Republican candidate Mitt Romney in Tuesday's U.S. election, outlined a position for the fiscal issues on Friday that is far apart from that of his political opponents, suggesting a long battle is to come.

"If the market anticipates a resolution to the fiscal cliff or Europe or any of the other bricks in the wall of worry, we could easily take off," Sarhan said.

Seventeen of the Dow's 30 components are trading below both their 50-day and 200-day moving averages, while another eight are under their 50-day levels, but not their 200. Only five components - Bank of America, JPMorgan Chase, Home Depot, Johnson & Johnson and Travelers - are above both support levels.

Another big negative for the market has been heavy selling of Apple shares. The stock of the world's biggest company, ranked by market capitalization, lost 5.2 percent this week, weighing heavily on both the S&P 500 and the Nasdaq. The stock is down 22.4 percent from its September 21 all-time intraday high of $705.07.

Big retailers' report cards
The election and fiscal cliff concerns, which came on the heels of Superstorm Sandy and its devastating effects on many parts of the U.S. Northeast, have captured so much attention that they've overshadowed weakness coming from third-quarter earnings.

With results in from 449 of the S&P 500 companies, third-quarter earnings now are estimated to have declined 0.3 percent from a year ago, which is slightly better than the forecast at the start of the reporting period. Results have been especially weak on the revenue side, however, with just 38 percent of companies beating on sales, Thomson Reuters data showed.

But recent stronger economic data, including a report on Friday showing consumer sentiment at more than a five-year high in early November, suggests that retailers, many of which have yet to report, could be among the stronger performers this earnings period.

Next week, results are expected from such big names as Target, Wal-Mart and Home Depot.

Consumer discretionary companies have outperformed the broader S&P 500 in earnings, with 72 percent of the companies in that sector beating analysts' expectations, compared with 63 percent for the S&P 500 as a whole.

Investors will be paying close attention to those results with the holiday shopping period around the corner, said Rick Meckler, president of LibertyView Capital Management in Jersey City, New Jersey, which oversees about $1 billion in assets.

"It's really the beginning of the Christmas sell season, and I think there's going to be a lot of interest with the outlook for that season and how promotional companies are going to be," Meckler said.

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Obama's win clouded by looming 'fiscal cliff'

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John W. Schoen , NBC News

Congratulations, President Barack Obama. Now you have just 49 days to resolve a $600 billion fiscal crisis that could push the economy back into recession.

The slow, steady improvement in the economy that helped Obama defeat Republican nominee Mitt Romney Tuesday is in peril if he can’t quickly forge agreement with a still-divided Congress on a new budget that delays steep tax increases and deep spending cuts.

The so-called “fiscal cliff” – set to take effect Jan.1 – is a doomsday budget package Congress enacted in 2011 to try to force compromise on a series of bitterly divisive policy choices. The budget package is a witch's brew of harsh measures designed to inflict political pain as widely as possible, the better to prompt all sides to reach the compromise that would prevent it from taking effect.

The law slashes Obama’s popular payroll tax cut, cancels extended jobless benefits, imposes deep cuts in Medicare reimbursements to doctors, exposes millions of Americans to the dreaded Alternative Minimum Tax, eliminates tax deductions for state and local sales taxes and child care tax credits (among others), takes a meat ax to defense spending and slashes “discretionary” spending – on everything from education to homeland security – by as much as 10 percent.

Economists and politicians, including Federal Reserve Chairman Ben Bernanke, have warned it would almost certainly wipe out any progress the White House has made in reviving the economy and creating jobs.

Concern about the fiscal cliff was among the factors driving down stock prices sharply in a post-election slump. The Dow Jones industrial average was down nearly 300 points in its biggest one-day slump in nearly a year, pushing the benchmark index below the 13,000 level before it recovered slightly.

Recent reports have shown the economy picking up strength. Growth in U.S. gross domestic product, though still sluggish, picked up to a 2.0 percent annual pace in the third quarter from a 1.3 percent rate in the second. After a pause this spring, the pace of hiring picked up this summer, with employers now adding some 175,000 new jobs a month to payrolls. Consumers are spending more on big-ticket items, like cars and appliances.

A prolonged budget impasse would reverse those gains. The hit to consumer spending from higher taxes, along with the loss of government spending, would knock 3 to 4 percent from GDP, according to the Congressional Budget Office.

"If we go back into recession, we will likely pull the global economy with us," said Ameriprise Financial economist Russell Price. "The longer a (budget) deal takes, the longer the economy suffers. It’s just that simple."

In their election night speeches, both Obama and Romney hinted that members of the newly elected Congress, who have been gridlocked over the issue for months, need to cross party lines to tackle the problem when they resume business next week.

"In the coming weeks and months, I am looking forward to reaching out and working with leaders of both parties, to meet the challenges we can only solve together,” Obama said. “We are not as divided as our politics suggests. We’re not as cynical as the pundits believe."

“At a time like this, we can't risk partisan bickering and political posturing,” Romney said. “Our leaders have to reach across the aisle to do the people's work.”

There are some broad signs that a congressional compromise is possible before year-end. An influential group of business economists recently indicated support for some new tax increases to balance the budget. Obama and some Senate Democrats have indicated further cuts are needed in large entitlements like Social Security and Medicare, by far the biggest contributors to budget deficits.

A major flash point remains over the White House's insistence on raising tax rates for the wealthiest Americans – those earning $250,000 or more. The White House recently renewed its threat to veto any budget deal that preserves Bush tax cuts for those high-income earners.

As both sides begin to look for a compromise, that contentious issue remains. Despite campaign spending of some $6 billion, voters re-elected a government with virtually the same political make-up as the one that has been deadlocked for years over tax policy.


House Speaker John Boehner, R-Ohio, told reporters Wednesday that House Republicans “want the president to succeed” and urged broad reform of the tax code. But he renewed his party’s opposition to raising tax rates on the upper end of the income ladder.

“We’re willing to accept new revenues under the right conditions,” he said. “(But) feeding the growth of government with higher tax rates won’t solve the problem.”

Senate Democratic Leader Harry Reid said he was willing to negotiate with Republicans any time on any issue.

"We have to sit down and go to work on it now, not wait. This was really the message the American people sent," Reid said at a Capitol Hill news conference.

If the House remains dug in over the issue of tax increases, compromise with Senate Democrats and the White House will be difficult to reach – even if it means reversing recent progress in mending the economy.

“With neither party gaining much political capital during the elections, both have little choice but to strive for a compromise that prevents the hikes in taxes and cuts in government spending that are due to start sucking $600 billion, or 4 percent of GDP, out of the economy early next year,” economists Paul Dales and Paul Ashworth at Capital Economics wrote to clients Wednesday.

Last minute deal?
Ashworth and Dales believe that the impasse will likely be broken at the last minute as Democrats agree to extend the tax cuts for high-income earners and Republicans agree to delay spending cuts.


“So although another recession will probably be avoided, postponing the cliff without tackling the underlying long-term fiscal problems will undoubtedly lead to more credit ratings downgrades early next year,” they said.

The U.S. government's failure to get its fiscal house in order after political gridlock set in during the summer of 2011 prompted Standard & Poor's to take the historic step of downgrading the U.S. credit rating from AAA+, its highest, to AAA. Ratings agency Fitch said Wednesday it might follow suit if a pact is not reached quickly.

Some aren't so sure a compromise will be reached in the lame-duck session.


“The House Republicans are not going to vote for an increase in marginal tax rates,” Tony Fratto, a White House spokesman in the George W. Bush administration, told CNBC. “They're not going to do it. This is what they believe in. This is their economic policy. They don't want to see higher tax rates. And they believe it's bad for the economy.”

Given that resistance, some political observers suggest that the White House may let the budget impasse extend through the first of the year, allowing spending cuts and tax increases kick in.

At that point, with rates at much higher, pre-Bush levels, Obama and Senate Democrats could propose large “tax cuts” – for everyone except the wealthiest - that would still leave revenues higher than they are under current law. That strategy would, in effect, amount to a game of chicken, with the economy the biggest potential loser.

The impact could take time to unfold. While clearly dire in the long run, the economic damage from combined tax increases and spending cuts would be felt gradually in the early months of 2013, according to Jared Bernstein, a senior fellow at the Center on Budget and Policy Priorities and former economic adviser to the Obama administration.

“The way to think about the fiscal cliff is more of a slope,” he said. “Just going over the fiscal cliff and reversing yourself pretty quickly - the fiscal bungee jump - I don't think it's a good thing, but that's not recessionary.”

Even is a deal if reached, the budget process faces yet another monkey wrench early next year: the looming expiration of the $16.4 trillion debt ceiling. The once-routine process of raising the government’s legal borrowing created the political fracas that produced the fiscal cliff in the first place.

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Congress steering economy toward a 'fiscal cliff'

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Jason Reed / Reuters

Watch that fiscal cliff. Fed chairman Ben Bernanke departs a news conference following the monthly two-day meeting at the Federal Reserve in Washington, April 25, 2012.

By John W. Schoen, Senior Producer
Fed Chairman Ben Bernanke calls it the “fiscal cliff.” It might be better thought of as the next economic Armageddon.

Unless Congress acts to soften the blow, economists are warning that a looming year-end collision of massive, “automatic” cuts in federal spending and the expiration of sweeping Bush-era tax cuts could crush an already weak U.S. economic recovery.

And unlike the central bank’s response to the Panic of 2008, the Fed would be powerless to offset the catastrophic impact on the economy and financial markets.

"There is absolutely no chance that the Federal Reserve would be able to have the ability whatsoever to offset that effect on the economy," Bernanke told reporters Wednesday, following a two-day meeting of the Fed's policy-making committee.

The risk of a potential economic train wreck stems from a series of contentious political decisions that Congress has been ducking for years, postponing a long list of tough choices until the end of the year, until after the national elections.

Now, unless a compromise is reached, sharp cuts in federal spending will remove hundreds of billions of dollars from the U.S. economy, virtually overnight. At the same time, American consumers will see a massive increase in taxes that will sharply curb their spending power, taking another big bite out of the economy.

While it was ducking those big decisions, Congress has also punted on a series of smaller budget measures that will have to be decided by next year. Taken together, they add up to some big numbers.

The lists includes two long-running budget items that have become a popular perennial target of political horse trading. One is the now-annual "fix" to scheduled cuts in Medicare payments that would reduce spending on doctors' fees by as much as 30 percent. The other is a so-called "patch" required to prevent the Alternative Minimum Tax from hitting an ever-wider swath of middle class households.

Wage earners are also set to lose the payroll tax cut that expires at the end of this year. An extension of long-term unemployment benefits is also set to expire, which would further slash the amount of money flowing through the economy.

Economists and budget analysts have offered up various estimates on just how badly the economy would be damaged if Congress fails to act in time. The combination of the tax increases and spending cuts would amount to more than $6.8 trillion over 10 years, according to the Committee for a Responsible Federal Budget, a non-partisan think-tank whose board includes former members of Congress and budget directors.

The Congressional Budget Office predicted earlier this year that the full impact of those tax hikes and spending cuts would remove about 3.5 percent of gross domestic product, more than wiping out the current recovery. That would send the unemployment rate, which stood at 8.2 percent in March, to 8.9 percent by year-end and 9.2 percent at the end of 2013.

Some economists argue the hit to GDP could be even greater. Morgan Stanley economist David Greenlaw figures the hit from the fiscal cliff would amount to more like 5 percent of GDP in 2013.

Others, like Deutsche Bank economist Joseph LaVorgna, think those estimates are overblown, though his assessment assumes Congress gets its act together and steers away from the cliff at the last minute.

But there's widespread agreement that if lawmakers ultimately pull a "Thelma and Louise," the economic impact of these tax and spending changes would be devastating if they hit all at once.

As Congress quibbles bitterly over how to cut the federal deficit, lawmakers generally agree that failing to do so would have dire long-term consequences. But, as Bernanke told the House Oversight Committee in March, balancing the budget abruptly would be even worse.

"It is important to achieve sustainability over a longer period," he told the panel. "One day is a pretty short time frame."

Perhaps even more worrisome than the scheduled "cliff" in federal taxing and spending is the timetable lawmakers face to prevent the worst-case scenarios from playing out. Given the potential changes in party leadership for both Congress and the White House, chances appear slim to none that any decisions will be made until after the November elections. That leaves Congress and the White House roughly eight weeks - punctuated by the Thanksgiving, Christmas and New Year's Eve holidays - to prevent the economy from falling off the cliff both sides have created.

The deadline could be even tougher to meet if, as some are warning, the government runs out of borrowing authority in the middle of that eight-week window.

Though the exact timing is difficult to predict, the next expiration of the current debt ceiling will likely spark another round of brinksmanship reminiscent of last August, when Congress and the White House narrowly quelled a rebellion by House Republicans bent on forcing the U.S. Treasury to default on its debt. That compromise produced the "automatic" $1.2 trillion spending cuts set for early next year.

"Finding a clever way to kick the can down the road again is becoming a bigger and bigger challenge," Princeton University economist Alan Blinder wrote in a recent Wall Street Journal OpEd. "And Congress has barely coped with previous such challenges."

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CNBC's Steve Liesman discusses the statements made by the Federal Reserve on Wednesday and whether QE3 is ahead.

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