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Five reasons America won't fall off the 'fiscal cliff'

The political and economic ramifications are too big for Washington to let the large tax increases and spending cuts take effect. But this doesn't necessarily mean lawmakers will craft a decisive solution to the nation's fiscal woes.

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Even without the drag of the cliff, the CBO calculates that the economy will grow an anemic 1.7 percent this year and unemployment will hover around 8 percent. With Europe mired in its own fiscal problems, and the world's other big economy, China, slowing as well, a downturn in the United States could have disastrous global consequences.

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"I have to believe that common sense and self-preservation will prevail" in the face of such economic peril, says Maya MacGuineas, president of the Committee for a Responsible Federal Budget and a leading advocate for a grand budget deal styled after the president's debt commission. "It's not going to be easier to fix the problem by putting the country into a recession – quite the opposite."

Because of the impact on pocketbooks.

The tax increases imposed by the cliff on Americans, collectively, would be the highest in six decades as measured by a percentage of the economy. No one who pays income tax would be spared, and many others wouldn't either.

Much of the attention has focused on the expiration of Bush-era tax cuts that would benefit the wealthy. President Obama has indicated he opposes any agreement that would extend tax cuts on those with household incomes above $250,000, while House Speaker John Boehner (R) of Ohio believes allowing higher rates on upper-income Americans would slow job growth. Mr. Boehner has implied that the wealthy could pay more by reducing the tax deductions they receive – but not by increasing their marginal tax rates.

Yet many of the tax increases that would occur if the fiscal cliff takes effect would fall on middle-income Americans. A household earning $50,000 per year, for instance, would see its taxes grow by $2,000 in 2013, according to the Tax Policy Center. That's in addition to the planned expiration of tax credits for low-income earners and college students passed in 2009 as part of the economic stimulus package.

One of the biggest impacts would come from failing to fix the AMT, or alternative minimum tax. When it was first passed, the AMT was designed to prevent rich people from exploiting loopholes to avoid paying income taxes. But because the AMT wasn't indexed for inflation, it has hit more middle-income families over time. While Congress has acted each year to limit how many people are affected by it, an unresolved cliff package would lead to a nearly sevenfold increase in the number of Americans (from 4 million to about 30 million) who would be affected by the law when they file their 2012 income taxes in the new year.

"You will have 30 million angry constituents and they will ask you why," says John Buckley, a professor of tax law at Georgetown University Law School in Washington, who adds: "I don't think Congress can tolerate that."

Because of the 401(k) effect.

While lawmakers can posture all they want over the fiscal cliff, there is one American institution that registers its opinion every day irrespective of the machinations of Washington – Wall Street.

Many analysts expect the stock market to play a role in pressuring the two sides to hatch some sort of agreement. Letting the nation fall off the cliff – or even approach the cliff – could result in a catastrophic drop in the stock market, they say, which would erode people's portfolios and financial institutions' balance sheets.

"If this craters, that means markets crater," says Douglas Holtz-Eakin, a former director of the CBO and president of the conservative American Action Forum. "And that means all that collateral for the banks crater." He thinks the nation would be facing some of the same problems it did in 2008, at the beginning of the financial crisis.


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