WASHINGTON -- Even if U.S. lawmakers avoid the so-called fiscal cliff, higher taxes and brinksmanship in Washington are likely to continue damaging the fragile economy well into 2013.
In the early hours of the new year, the Senate passed emergency legislation to prevent deep spending cuts and even bigger tax hikes from taking effect. But the measure ran into fierce opposition Tuesday from House Republicans, leaving unclear whether a final agreement could be reached before the current Congress ends Thursday.
The Senate version would raise taxes on individual incomes over $400,000 and household incomes over $450,000 and on the portion of estates that exceeds $5 million. House Republicans are reluctant to sign on to those tax hikes -- which would deliver some $600 billion in revenue over 10 years -- at least without more cuts in government spending.
The higher taxes on the wealthy would likely slow the economy a little bit. But a bigger drag would come from a tax hike Democrats and Republicans aren't even bothering to fight over: the end of a two-year Social Security tax cut. The so-called payroll tax is scheduled to bounce back up to 6.2 percent this year from 4.2 percent in 2011 and 2012, amounting to a $1,000 tax increase for someone earning $50,000 a year.
"It's a huge hit," says Joel Naroff, president of Naroff Economic Advisors. "It hits people whether they're making $10,000 or they're making $2 million. It doesn't matter who
Mark Zandi, chief economist at Moody's Analytics, calculates that the higher payroll tax will reduce economic growth by 0.6 percentage points in 2013. The other possible tax increases -- including higher taxes on household incomes above $450,000 a year -- will slice just 0.15 percentage points off annual growth, Zandi said.
The economy doesn't have much growth to give. Mark Vitner, senior economist at Wells Fargo, predicts it will expand just 1.5 percent in 2013, down from a lackluster 2.2 percent in 2012. Unemployment stands at 7.7 percent.
A months-long political standoff over fiscal policy has already taken its toll, adding uncertainty that has discouraged consumers from spending and businesses from hiring and investing.
The squabbling seems sure to persist even if the House goes along with the Senate's partial fix.
Senators postponed tough decisions on government spending, giving themselves a reprieve from cuts that were scheduled to begin taking effect automatically Jan. 1. That just sets the stage for more hard-bargaining later, even if the House approves the Senate's version.
And another standoff is likely to arrive as early as February when Congress will need to raise the $16.4 trillion federal borrowing limit so the government can keep paying its bills. House Republicans probably won't agree to raise the debt limit without offsetting spending cuts that Democrats are sure to resist.
"Even if they cut some small deal, the process and what is left undone still means there's a lot of uncertainty," says Stuart Hoffman, chief economist at PNC Financial Services Group.
After Jan. 1, asks Ethan Harris, co-head of global economics at Bank of America Merrill Lynch, "what induces the two sides to stop fighting and start compromising?"
The fiscal cliff itself was created to force Democrats and Republicans to compromise.
To end a 2011 standoff over raising the federal debt limit, they agreed to a Jan. 1, 2013 deadline to reach a deal over taxes and spending. If they didn't, more than $500 billion in tax increases would hit the economy in 2013 alone, along with $109 billion in cuts from the military and domestic spending programs. The sharp tax hikes and spending cut would threaten to send the economy over the cliff and back into recession.
But negotiations to avert catastrophe have highlighted once again how far apart the two parties are on taxes (Republicans don't want to raise them) and spending (Democrats are reluctant to cut government programs).
"We're learning about how deep the impasse is," Harris says. "Both sides have decided that they were willing to go to the last minute."
Political gridlock has been rattling financial markets and shaking consumer and business confidence the past two years.
Consumer confidence fell in December for the second straight month, according to a survey by the Conference Board, which blamed the drop on worries about the fiscal cliff. The uncertainty is also believed to have dinged holiday shopping, which grew at the slowest pace this year since 2008.
"Every kind of brinksmanship moment is a reminder to people to not trust the economy," Harris says.
Many economists are disappointed that Congress and the White House couldn't reach agreement on a broader deal that significantly reduces the deficit over the next 10 years. That could have boosted business and consumer confidence and accelerated growth .