Tax-Cut Deal: Enough to Boost Jobs? - Analyst Blog

Is sustaining the Bush-era tax cuts adequate to address unemployment? President Barack Obama's tone at a White House event last week gives us confidence, but questions on the efficacy of the tax-cut still lingers.

Though the tax-cut deal -- better to say Obama's compromise with Republicans to break the deadlock over taxes -- gives Americans increased take-home money, it might significantly increase the nation's federal budget deficit over the next two years.

As the pay rise will help increase money supply into the economy, it will create significant jobs. As a result, issues related to unemployment will be addressed considerably, but at the cost of mounting national debt.

Deal Approval in Limbo 

Following the clearance from the Senate on Wednesday, the $858 billion tax-cut package will go to the House, where many Democrats are enraged about the deal that relaxes tax for rich Americans for the next two years. However, many of the Democratic leaders expect the bill to be ultimately turned to law.

What's the Big Deal?

With an intension to retain unemployment benefits, which expired on November 30, Obama agreed to extend all the Bush-era tax cuts, slated to expire on December 31, for two years.

Under the deal, the estate tax will be held at 35% over the period, unemployment benefits for about 15 million jobless Americans will be stretched for another 13 months, payroll and business taxes, as well as tax credits for students and lower-income families will also be retained. About 2 million unemployed people would have run out of benefits had the new tax deal not been brought into effect.

The deal will create more than $300 billion in new tax cuts for wage-earners, wealthy families and corporations. It would also maintain the 15% tax rate on most capital gains and dividends for two years.

Imprudent Job Creation

According to Center for American Progress, the deal is expected to create about 3.1 million new jobs in total after adding up different provisions. The estimate is based on the Congressional Budget Office's estimate of one million new jobs for each 1% of GDP growth.           

However, based on the same assumption, the Obama administration had previously claimed that the $787 billion American Recovery and Reinvestment Act would create 3.5 million jobs. But the unemployment rate stood at 9.8%. The basic reason for this is that the government is a bit reluctant to create jobs in the private sector directly by implementing rules or laws.

Though the government stimulus packages are able to increase GDP, most of the private sector firms are in the verge of recovering their financial conditions with cost savings via limiting recruitments. We don't think the new tax-cut deal will be able to address the unemployment problem to a great extent as many of the companies are still struggling with weak financials.

The recession continues to take its toll on banks. There have been 151 bank failures so far this year. With loan losses on commercial real estate on the rise, hundreds of more banks are likely to crash in the next few years.

The bank failures have resulted in a wave of consolidation in the industry. When Washington Mutual was in the red in 2008 and was deemed as the largest bank failure in the U.S. history, it was acquired by JPMorgan Chase & Co. (JPM). The other major acquirers of failed institutions since 2008 include U.S. Bancorp (USB) and BB&T Corporation (BBT).

If the current pace of consolidation continues, we will see the emergence of a handful of large banks. As a result, the overall economy will not remain unscathed and job creation will become vulnerable.

Loss of Focus?

Government's highly criticized $700 billion Troubled Asset Relief Program (TARP) has finally been able to silence quite a few detractors well ahead of the end result. The program has been effective in easing the pressure on markets for credit and capital with a profit $35 billion so far. This has also restored confidence in the financial system to a great extent. However, it has not been very effective in helping create jobs.

If we consider the $858 billion tax-cut package as the second major stimulus, we can expect the success trend to continue. However, as far as job growth is concerned, the government should have additional policy efforts to address deterioration in America's budget deficit. Also, providing unemployment benefits to jobless people will not help improve the employment rate by any means. Instead, paying people to stay out of work might create a vicious circle in the long term.

 
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