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Obama Calls for Short Term Spending Cuts, Tax Measures

FEB 5, 2013 11:52am ET
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WASHINGTON — President Obama on Tuesday urged Congress to pass a short-term spending cut and tax reform package as a way to stave off the looming March 1 sequestration cuts that he said would be economically damaging to the U.S. economy.

“We can’t cut our way to prosperity .... This doesn’t have to happen,” Obama said in a speech from the White House that again raised the prospect of tax curbs that could hurt the muni bond market.

In brief remarks, Obama said that any deficit reduction should be balanced and contain some tax reform measures that eliminate tax loopholes and deductions so “that the wealthiest individuals and corporations can’t take advantage” of them.

Congress can then work on a longer term, balanced budget plan, he said.

But Republicans immediately rebuffed this approach.

“Tax reform should be about making the code simpler and fairer for American families and helping employers create more jobs,” said House Ways and Means Committee Chairman Rep. Dave Camp, R-Mich. “The president’s proposal is nothing more than another tax hike to pay for more Washington spending. That is not what America needs.”

Senate Finance Committee Chairman Sen. Max Baucus, D-Mont., said he agreed with Obama, but warned tax reform can’t be done as a “quick fix.”

“Tax reform is about more than revenues,” Baucus said in a release. “It is about simplifying peoples’ lives, encouraging businesses to invest and grow, and boosting innovation and education.  We are not going to have multiple bites at this apple. I want to ensure that when we do tax reform, we do it right.”

Obama said it appears that Congress needs more time to work out a 10-year budget plan that would reduce the federal deficit by more than $1 trillion. He did not give a deadline or specific dollar amount for any such short-term package, leaving it to the discretion of congressional leaders.

Obama emphasized that the economy is headed in the right direction and it could stay that way “as long as there aren’t any more self-inflicted wounds coming out of Washington.”

He also said that the proposals he put forth during the fiscal cliff negotiations with House Speaker John Boehner, R-Ohio., and other congressional leaders are “still very much on the table.” During those talks, placing a 28% cap on the value of municipal tax exemption was one idea that appeared to gain momentum among leaders at the negotiating table. That proposal, which was in the president’s 2013 budget and 2011 jobs bill, would apply to municipal bonds.

The fiscal cliff agreement, also known as the American Taxpayers Relief Act, delayed $85.3 billion of automatic, across-the-board budget cuts until March 1. A larger amount of cuts, $109.3 billion, was initially set to go into effect on Jan. 2.

If the $85.3 billion of cuts are implemented, payments on Build America Bonds could be higher than the estimated 5.3% because of the window for the cuts has been shortened to seven from nine months, market participants have warned.

OMB initially estimated that BAB payments for fiscal year 2013 would have to be cut by 7.6% or $255 million. After ATRA was enacted, the Center on Budget and Policy Priorities estimated that BABs and other non-defense discretionary programs would only have to be cut 5.3%. But muni market participants said the cuts would be higher for some due to the fact that the period in which they are to be made is now seven instead of nine months.

Earlier in the day, ahead of  Obama’s speech, Boehner said.  “We believe there is a better way to reduce the deficit, but Americans do not support sacrificing real spending cuts for more tax hikes.”

Separately, the nonpartisan Congressional Budget Office released its economic and budget outlook Tuesday, which found that if current tax and spending laws remain in place, the federal budget deficit will shrink this year to $845 billion or 5.3% of gross domestic product, its smallest size since 2008. This is down significantly from deficits which have exceeded $1 trillion over each of the past four years.

In its 77-page report the CBO said it expects economic growth to be sluggish in 2013, with real GDP growing by just 1.4%, partially due to a reduction in federal spending. As the economy adjusts to the fiscal tightening, the CBO estimates 3.4% economic growth in 2014 and 3.6% each year from 2015 to 2018.

Under current law, CBO expects the unemployment rate to remain high — above 7.5% through 2014 — before falling to 5.5% percent at the end of 2017. The rate of inflation is projected to rise slowly after this year

While the federal deficit is projected to decrease over the next few years, the CBO estimates it will keep growing in the second half of the decade due to an aging population, increasing health care costs, and rising interest rates.

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A recent phenomenon is the emergence of bonds with shorter call protection as funding alternatives for municipalities. However, the shorter call protection also dampens the potential upside for investors, which in turn reduces the price they are willing to pay.

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