Tags: Siegel | US | Fiscal | Cliff

Wharton’s Siegel: US Will Veer Away From ‘Fiscal Cliff’ at Last Minute

Thursday, 05 Jul 2012 10:04 AM

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Lawmakers will work together and steer the country away from a fiscal cliff looming in early 2013, says Wharton finance professor Jeremy Siegel.

On Dec. 31, the Bush-era tax cuts and other tax holidays expire at the same time automatic spending cuts kick in.

The combination of the two, known widely as a fiscal cliff, could seriously derail recovery and throw the country back into recession by some estimates.

Editor's Note: Economist Unapologetically Calls Out Bernanke, Obama for Mishandling Economy. See What They Did

Congress must act by delaying the timing of the tax hikes and spending cuts.

Considering lawmakers nearly threw the country into default in 2011 by waiting until the last second to raise the debt ceiling, faith they'll work together in an election year to address the fiscal cliff remains scant.

But after the election, expect results.

"I may be an optimist. I believe there is going to be an extension for 6, 9 or maybe 12 months in the Bush tax cuts," Siegel tells CNBC.

"I think they are going to seriously tackle the deficit much to everyone's surprise. No one has an incentive right now — the election is coming up in November. But once people know who has been voting for who and what position has been advocated, I think they are going to sit down and do some serious work, and we are going to get some good reform next year."

Stocks could rise next year, with the Dow Jones Industrial Average finishing as high as 15,000 at the end of next year provided the U.S. doesn't drive over a fiscal cliff and Europe doesn't implode, Siegel says.

"I'm still holding very much with 15,000 next year. I think that's a definite odds on."

The Dow is currently hovering just shy of 13,000.

Turning to Europe, where the European Central Bank cut its benchmark lending rate 25 basis points to 0.75 percent, Siegel says the monetary authority deserves praise for cutting its deposit rate to zero percent.

With a deposit rate of zero percent, the European Central Bank pays banks nothing on overnight deposits, thus encouraging them to lend.

The U.S. Federal Reserve should consider a similar measure, Siegel says.

"Europe is muddling through to get where they have to get through, and I think one thing very interesting today was the drop of that deposit rate to zero. I've been advocating for some time that the Fed should drop its interest on reserves to zero."

The deposit rate currently stands at 0.25 percent.

The Fed has tried to stimulate the economy by making large-scale asset purchases from banks, known as quantitative easing, though hiring remains sluggish and pricing pressures suggesting a tepid recovery.

The Fed has also shuffled its holding of Treasury securities by selling short-term notes and stocking up on longer-duration instruments, known as Operation Twist, though the economy remains in the doldrums.

"We always talk about quantitative easing and Twist, why don't we talk about dropping that rate just like the ECB did to zero? Because right now, banks don't have an incentive to lend out."

"We need to do every little thing we can do to encourage the banks to lend that out and one of those things is not by keeping that deposit rate at a positive level."

Some say the ECB's latest steps to spur recovery will meet with limited success.

While a zero-interest deposit rate does encourage banks to lend, it does nothing to keep banks from holding onto their cash out of fears other banks may be insolvent and not pay them back if that money is lent out.

"Today's ECB interest rate cut does little to alter the bleak economic outlook," says Jennifer McKeown, an analyst at Capital Economics, according to the Associated Press.

Editor's Note: Economist Unapologetically Calls Out Bernanke, Obama for Mishandling Economy. See What They Did



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