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CBO Projects $1.1 Trillion Deficit For 2012, Recession If 'Fiscal Cliff' Not Averted

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WASHINGTON — A stalemate between Democrats and Republicans that ends up boosting taxes and slashing federal spending in January would likely thrust the nation into a 2013 recession and cost 2 million jobs by the end of that year, Congress' top nonpartisan budget analyst warned Wednesday.

The cautionary report by the Congressional Budget Office, drearier than a similar alarm it issued in May, immediately raised the political stakes in one of this election year's signature conflicts between the two parties.

Without an agreement between President Barack Obama and Congress by January, tax reductions on virtually all taxpayers are scheduled to expire and spending cuts will be imposed on hundreds of popular domestic and defense programs. That would plunge the nation off a so-called "fiscal cliff," which each side is eager to blame on the other.

Together, the scheduled tax increases and spending cuts would total nearly $500 billion next year, the report said – a huge amount of activity to suck out of a $16 trillion economy that is already struggling. That would be the largest annual reduction in the federal deficit compared to the size of the economy in more than four decades, said Douglas Elmendorf, the budget office's director.

Doing that "would probably lead to a recession early next year," Elmendorf told reporters.

That scenario would cause the economy to shrink by 0.5 percent in 2013 and push unemployment up to around 9 percent in the second half of next year, according to the report. Elmendorf said that would mean 2 million fewer jobs than if the tax cuts are renewed and the spending cuts averted.

The prospect of triggering a recession added a new level of risk and complexity to this year's high-profile political fights over sparking job creation and curbing mammoth federal deficits.

Obama wants to renew expiring tax cuts but let rates rise on amounts exceeding $200,000 annually for individuals and $250,000 for couples. Republicans insist that all tax reductions be continued. The two sides are also stuck over how to head off budget-wide spending cuts triggered by last year's failure to broker a bipartisan deal on reducing the federal debt.

The White House said the budget report showed it is time for the Republican-led House to approve tax cuts for all but the nation's highest earners. The Democratic-led Senate approved such a bill last month, while the House passed one extending tax reductions for all.

"They're willing to hold the middle class hostage unless we also give massive new tax cuts to millionaires and billionaires – tax cuts we can't afford that would do nothing to strengthen the economy," White House spokesman Jay Carney said of Republicans in a written statement.

GOP presidential challenger Mitt Romney's campaign pointed its finger at the White House.

"Today's CBO report is another indictment of President Obama's economic policies that have resulted in overspending, increasing debt, and a growing financial burden on the next generation," said Romney campaign spokesperson Amanda Henneberg.

In written statements, No. 2 House GOP leader Rep. Eric Cantor of Virginia, said Obama's budget plans "threaten our national security, jobs and economic growth." And Rep. Chris Van Hollen of Maryland, top Democrat on the House Budget Committee, said Republicans want to "protect special interests and tax breaks for the wealthiest in our country."

In May, the budget office said gridlock over taxes and spending could cause a recession, but the warning was milder. Analysts said then that letting the tax cuts expire and the spending cuts take effect would cause the economy to shrink early in 2013 but grow later in the year for overall annual growth of 0.5 percent.

Elmendorf said his office has since lowered its expectations for economic activity. He said the economy was already showing signs of being hurt by uncertainty over the looming tax increases and spending cuts.

"We think that the economy right now is being held back by anticipation of this fiscal tightening," he said.

The report underscored that lawmakers face no easy answers.

While extending the tax cuts and avoiding the spending slashes would keep the economy stronger over the next two years, continuing those policies for the long term would produce annual budget deficits averaging almost $1 trillion for the next decade. That would produce debt totaling nearly $10 trillion for that period – pushing the government's cumulative debt to 90 percent of the size of the economy by 2022, a proportion unseen since just after World War II and widely considered badly damaging by economists.

That, said Elmendorf, "would put us on a path of federal debt that would ultimately be unsustainable."

Yet while ending the tax cuts and letting the spending cuts occur would cause quick economic damage, it would also produce more deficit reduction. If the tax cuts expire and spending reductions take place in January, next year's budget shortfall would be $641 billion – down from just over $1 trillion if the opposite occurs, the report said.

The budget office projected a $1.1 trillion federal deficit for 2012, the fourth straight year the government's shortfall will exceed $1 trillion.

It also envisions an economy recovering at only a modest pace the rest of this year, growing at an annual rate of 2.25 percent.

In two other findings that relate to this year's partisan battles, the budget office estimated that federal revenues – including income and payroll taxes – will reach 15.7 percent the size of the economy this year – well below the 18 percent average of the past 40 years.

Federal spending will hit an estimated 22.9 percent of the economy's size – above the 21 percent average of the past four decades.

Republicans say the government taxes and spends too much, assertions with which many Democrats disagree.

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