Tax deal: Obama blinked first, but everybody got something

The issue over extending the Bush tax cuts has long been a game of chicken: both the Democrats and the Republicans wanted to extend them for families earning less than $250,000 per year, but they disagreed on the tax cuts for families earning more than that.

Since they are (and will in the Senate remain even next year) a minority and since Obama would otherwise at any rate veto it, the Republicans knew that the only way that they could preserve the tax cuts for high income earners was to vote no to any separate bill extending them only for people with lower income. And while they are a minority, they can (especially with the help of more conservative Democrats like Ben Nelson) block it using filibuster.

If neither side yielded, then there would have been an outcome neither side wanted, namely tax increases for everyone. Would that become the case or would either side yield.

While many hard core leftist pundits and politicians like Paul Krugman and Bernie Sanders called on Obama to refuse to give in, and blame possible tax increases on the middle class on the Republicans, Obama ultimately caved in and agreed to extend them for 2 years.

The absence of such a tax increase is of course good. Furthermore, they seems to be part of a larger deal that has other good elements, particularly a reduction in the payroll tax and a change in the rules for business expensing.

Yet, the fact that payroll tax reduction and the extensions are supposed to be only temporary limits their usefullness. Most businesses base most of their investment decisions on long term considerations as it is not always easy or costless to undo them, this means that if it is not certain that tax cuts will be there for at least several years, then they will abstain from many activities that will be made profitable the first year.

Furthermore, allowing companies to write off the entire cost of capital equipment the first years, means that they can't use depreciation the coming years to reduce their tax bills, limiting its usefullness.

Also, the agreement doesn't just mean tax cuts and cancellation of tax increases, it also mean some spending increases, such as extending unemployment benefits and "refundable tax cuts" (which are actually transfer payments since they don't pay income tax).

Furthermore, it should be noted that all of these things will expand the deficit compared to the alternative.

So, it's a mixed bag with some positive and some negative aspects. I'll leave it to you to decide whether the good outweighs the bad or not.

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