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By Jason Stipp and Robert Johnson, CFA | 12-27-2012 12:00 PM

What Happens if There's No 'Cliff' Compromise?

If Congress can't reach a deal on the fiscal cliff prior to year-end, some effects will kick in sooner than others, says Morningstar's Bob Johnson.

Jason Stipp: I'm Jason Stipp for Morningstar.

As the budget wrangling continues in Washington, it looks increasingly likely that we won't get a deal for the fiscal cliff prior to Jan. 1. So what happens if we hit that deadline? The results might not be as dramatic as you think.

Here to offer his insights is Morningstar's Bob Johnson, our director of economic analysis. Thanks for being here, Bob.

Bob Johnson: Great to be here.

Stipp: We've talked about a lot of these things in different pieces before, in our talks, but I wanted to break down--since it looks like we might go over the cliff, so to speak--what exactly will happen on Jan. 1, and what would happen over time, and maybe what's not likely to happen at all?

The countdown clocks that we see on some websites, there's lot of concern about this hard deadline that we're seeing, but it's not really a cliff. There are some things that will happen quickly and sooner and some things will happen later.

Let's talk about, if we don't get a deal, we hit Jan. 1, what are we likely to see as far as cutbacks and increased taxes?

Johnson: I think the very first thing will probably be raising the Social Security tax back up to 6% again from 4%. We cut it in 2010 by 2% as a stimulus measure for the economy. Obviously, with Social Security having issues, there is widespread support that, well, maybe this isn't necessarily the best way to stimulate the economy, so let's leave that off the table.

So, there seems to be pretty broad agreement that will happen, and that's the law of the land right now. It's not like a withholding [change] that you can play loosey-goosey with; it's supposed to be so much out of each paycheck, and some people are going to get paid next Friday, and those people who get paid then will probably see the increased rate of the Social Security tax.

Stipp: So that amount will be $110 billion that won't be in your pocket because of this increase back to the normal rate of withholding for Social Security?

Johnson: Right, $110 billion out of $720 billion altogether

Stipp: Which is the total "cliff" when you add it all up.

Johnson: Yes.

Stipp: The second one is the unemployment insurance. There was an extension, and that extension is going to be going away. What effect will that have, and that's likely to kick in right at the beginning of the year?

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