What's the worst possible thing that could happen when we hit the fiscal cliff?
Here's Goldman's Alec Phillips and Jan Hatzius going through some of the possibilities:
Under the baseline “not so good” scenario, fiscal policy would shave nearly 1½ percentage points from real GDP growth in early 2013, compared with ¾ points in 2012. In this case, we expect a renewed moderate GDP growth slowdown to a 1½% pace in early 2013.
Under the alternative “bad” scenario, the fiscal drag would rise to nearly 2 percentage points in early 2013. This bigger hit, combined with the possible greater uncertainty if an agreement proves elusive for a few weeks in early 2013, would probably cause a sharper slowdown in GDP growth to 1% or less.
Finally, there is the tail risk scenario that Congress fails to agree on any type of resolution for a more extended period, and the economy is hit with both the sequester and much bigger tax increases. While the impact of such a failure—especially those related to confidence and financial conditions—are harder to quantify, just the direct fiscal impact would imply a GDP growth hit of around 4 percentage points in early 2013, and likely a recession.
One other thing to note in regards to the fiscal cliff. There is a sense on Wall Street that the race for The White House has truly been reset after last week's debate. Romney is unquestionably back in this.
Any assumption about what DC will look like after November 6 is now called into question, and trying to wargame out the fiscal cliff has gotten a lot harder.
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