When the economy and elections collide

SALT LAKE CITY — The United States is potentially only months away from one of the most predictable recessions in its history. Last month, I wrote about the tax increases and spending cuts that are already written into law and set to take effect in 2013. This dire scenario is now commonly referred to as the 2013 "fiscal cliff" or "taxmageddon" in Washington D.C. Last month's column addressed what it means to the average tax payer, but it is worth examining what all of this means in the broader context of an election year and a slowing global economy.

The combination of tax increases and automatic spending cuts carry a value of $500 billion on an annualized basis. To give some perspective, this hit is equivalent to nearly 3.5 percent of gross domestic product (GDP). First quarter GDP growth was reported at 2.2 percent according to the Bureau of Economic Analysis (BEA) and some expect that figure to be revised downward due to recent trade data.

The point is this: The U.S. economy is not growing at a pace that would allow it to continue expanding in the face of such a large and sudden adjustment.

Predictable Crises

It is a troubling fact that the fiscal cliff is one of many predictable crises that the U.S. will face if action is not taken. The need to address Medicare, Medicaid and Social Security is also known, but largely avoided due to political reasons. However, this is the most urgent issue relating to the nation's finances and economy in 2012. Keep in mind that the U.S. is set to hit its debt ceiling during the fall as well. Combine these events with the spotlight of a Presidential election and you have an amplification of the problem, similar to 2008 when crisis management was caught up in the middle of campaign season.

Market ReactionIf the political climate shapes up the way that it is expected to, markets will react unfavorably to extreme uncertainty and don't just take my word for it. Mohamed A. El-Erian, CEO of Pimco, a west coast financial firm with almost $1.5 trillion in assets under management, recently wrote an op-ed in the Washington Post talking about how markets will react. El-Erian writes that if nothing is done to address this problem, "the economy will slow during the summer, ratings agencies will again get nervous and the political environment will become even more polarized."

El-Erian then follows-up with some advice, "It is unfortunately once again time to fasten your economic seat belts."

If the violent market reaction of 2011 was any indication, it will again react poorly to such extreme uncertainty. In fact, the President of the Chicago Federal Reserve district, Charles Evans, at the Milken Conference said that the fiscal cliff is, "as big an uncertainty as I can imagine anybody facing."

If you have not picked up on it yet, this is a big deal.

Train Wreck

Most believe that at the last minute congress will intervene, which is a fair assumption to make. However, the risk of policy error increases. What is policy error? In basic terms, policy error risk is the possibility that a response by lawmakers and the President is incomplete or incorrect or a combination of the two, which would allow economic damage to occur.

Speaking on the difficulty of addressing the impending economic disaster during a compressed legislative calendar, in a CNBC interview, House Speaker John Boehner said that before the election, "The House is going to act to extend the current tax rates." Further elaborating, the Speaker explained why action was required before the election, "Otherwise we're going to have this mess all stacked up until after the election. And you want to talk about a train wreck? You're talking about a big one."

Unfortunately, most analysts and policymakers expect that nothing will be done before the elections and Speaker Boehner does not sound any more optimistic, "I've been in Washington long enough to know I shouldn't have high expectations."

Angry Voters

If you're reading this and becoming angry, you have every right to be. One unique characteristic of 2012 is that it is a consequential election year in the U.S. and around the world. In France, Nicolas Sarkozy was ousted in favor of Francois Hollande, and in Greece, a population under tremendous economic stress, voted unlike any election in recent history. Economic despair is allowing extreme political elements to gain power. A neo-Nazi party, Golden Dawn, won 7 percent of the vote in Greek parliamentary elections. Fortunately, in the United States, such extreme political elements are still on the sidelines of any legitimate discussion. However, lessons of caution should be drawn.

Campaign Fantasy

A U.S., and Utah electorate, may be tempted out of frustration to demand extreme action and vote for candidates promising the purest agenda and unrealistic promises of uncompromising policy victory. However, whether you're on the right in a conservative state like Utah or the left in a liberal leaning state like California, such hyperbole is campaign fantasy.

In the real world, extremes sent to Washington have to deal with each other. The fact of the matter is that gridlock over the next six to nine months would result in economic disaster for reasons mentioned above. It is time for policymakers to wrap up the debates and make some tough decisions. Yes, principle is important and so is representation of constituencies; but in addition to principle, strategy leading to effectiveness is just as important. A candidate that perfectly matches one's views, but is unable to implement their vision would be as useful as a high performance motor without a transmission.

The election of 2012 is when the rubber must hit the road; we need policymakers to act and they don't have much time. Voters will determine with their decisions the degree of progress that will be made. Hopefully, candidates able to move the national agenda forward will prevail. Voters need to be strategic and think about how best progress can realistically be achieved toward their desired outcome.

In other words, it is not wise to drink the spiked punch of campaign rhetoric. Critical times require sober voters.

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