After the fiscal-cliff deal, the payroll tax rate – income withheld from our paychecks for social security – went up from 4.2% to 6.2%. For the last two years, American employees were paying a little bit less in social security withholding and the jig was up last week. This rate increase is an effective increase in taxes of about $16 per week (or about $850 per year) for the average American worker.
What does this reduction in income mean for economic growth for 2013? A lot of retailers are concerned that, with less money in their pockets, Americans will spend less. In line with economic theory (taxes increase, demand goes down), many economists forecast that the payroll tax cut will have drag on consumer spending for the year (J.P Morgan expects 0.6% drag on growth, Goldman expects the same drag, Credit Suisse expects consumption spending to move from 2% in Q4 2012 to 1.5% in Q1 2013). We also think the payroll tax cut may have a bit of drag on consumer spending (here and here) in the first half of the year, along with the other changes in tax policy and uncertainty surrounding sequestration and the debt ceiling. Read more
Last week, I posted about the apparent disconnect between consumer confidence and businesses’ attitudes towards this economic recovery. Well, here we go again; the Reuters/University of Michigan Consumer Sentiment Survey results reported for October, and the U.S. consumer just seems to be getting more and more positive…practically cheery by some standards. The October data came in at 83.1, which was up from last month’s reading of 78.3. To put that in context, that’s the highest this measure has been since September of 2007.
The so-called “fiscal cliff” isn’t technically supposed to hit until 2013, when a mixture of tax increases and spending cuts could potentially go into effect. However, participants in the U.S. economy seem to be of two minds about whether the fiscal cliff is going to happen, or is maybe already here. Businesses seem to be acting like the economy already has one foot in the abyss – we’ll call this the pessimistic case. American consumers, on the other hand, seem to be operating under the assumption that all the partisan issues will get fixed before we reach the edge – we’ll call this the optimistic case.