Summary of Results

On one level, 2012 was a status quo election: Democrats retained control of the White House and Senate, while Republicans retained control of the House – and all three results were more emphatic than expected.

The partisan status quo, however, risks masking some interesting trends. One striking factor was the changing demographic make-up of the American electorate.  Higher numbers of young people and minorities in the nation are changing the political scene.  In fact, if the demographics in the United States in 1980 had matched what they are today, Ronald Reagan would never have been elected President.

For the first time in history, Latinos accounted for more than 10% of the overall vote – and they broke decisively (more than 70%) for the President.  The numbers of African-American voters and voters between the ages of 18 and 29 also increased – results that were thought to be impossible only a few months ago.  And some of these demographic changes made an impact on social issues.  The country elected its first openly gay senator (Tammy Baldwin (WI)), two states voted in favor of gay marriage (the first victories ever on that ballot question), and two Republican Senate candidates’ losses can largely be attributed to comments they made on abortion. 

For now, these changing demographics give Democrats a built-in Electoral College advantage.  That is particularly true in states like Colorado and Virginia that have been solidly Republican for decades but are now battlegrounds that voted for Barack Obama twice and have two Democratic senators.  Influxes of young people and Latinos to those states have changed their voting character.  The demographic advantage for Democrats, however, will undoubtedly be contested in the future as Republicans seek ways to change their electoral fortunes.

Presidential Results

President Obama had a decisive victory in the Presidential election, reaching more than 300 electoral votes even before the state of Florida could be called for either candidate.  The President won virtually every swing state and carried every state he won in 2008 except for Indiana and North Carolina.

Barack Obama defeated Mitt Romney with at least 303 electoral votes. As of this writing, 50.1% of the popular vote goes to Obama, while Romney has 48.4%.

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Senate Results

Senate Democrats were in position to keep their majority and perhaps add two seats.  Democrats picked up seats in Massachusetts and Indiana.  And, if Maine Independent Angus King caucuses with Democrats, as is expected, Democrats will have gained three seats held by Republicans.  The Republicans, however, gained a Democratic seat with Deb Fischer’s win in Nebraska. 

For Senate Republicans, the past two election cycles represent lost opportunities.  In 2010, they lost at least two winnable races (Nevada and Delaware) when they nominated very conservative candidates.  This year, Republicans made similar mistakes in losing Missouri and Indiana. 

In all, this means the Senate could be even more polarized over the next two years because of the exodus of moderate senators from both parties over the last two election cycles.  Republican Minority Leader Mitch McConnell is up for reelection in 2014 and will be reluctant to leave himself vulnerable to a potential primary challenge from his right.  Democrats have six senators up for reelection in 2014 in states carried by Mitt Romney, so Republicans will certainly have their sights set on recapturing the Senate in two years.

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Here is an overview of the outcome from the most closely contested races (winners in bold):

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House Results

Before the Election, Republicans held 242 House seats to the Democrats' 193.

As it stands, after the election, the GOP holds a 233-191 seat advantage over Democrats in the House, with 11races still undecided.

Republicans held on to their House majority on Election Day. Although several races throughout the country remain too close to call, the predictions of gains by some Democrats did not materialize.  It is possible that Republicans gained or lost a couple of seats but, in all, they will have about the same advantage in the House that they’ve had for the last two years.

There were, however, some very interesting races.  Incumbent Republicans and Tea Party favorites Allen West and Michelle Bachmann remain locked in tight races that remain too close to call.  And, in California, incumbent Democrat Brad Sherman handily beat incumbent Democrat Howard Berman in a bruising intra-party squabble brought about by redistricting.

For their part, House Democrats’ inability to pick up a substantial number of seats, much less regain control of the House, during an election that saw the Party hang on to control of the White House and Senate will undoubtedly have significant implications both in terms of the legislative agenda and the Party’s future in the lower chamber. Nonetheless, several vulnerable moderate Democrats including Jim Matheson (UT), John Barrow (GA), and Mike McIntyre (N.C.) were able to hold onto their seats.

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Governors Results

Republicans picked up a net total of at least one governor mansion on Election Day, and, as it stands, will control 30 governorships to the Democrats’ 19, with seats in Montana and Washington state still considered too close to call. Prior to the election, 20 governor’s seats were held by Democrats and 29 seats by Republicans, with one seat, Rhode Island, held by Independent Lincoln Chafee.

Congressional Leadership Expectations

House GOP:

With the Republicans retaining the majority in the House, John Boehner (OH) is expected to remain as Speaker. Eric Cantor (VA) is widely expected to remain the House's Majority Leader, and Kevin McCarthy (CA) will likely continue as whip, with Greg Walden (OR) likely to replace Pete Sessions (TX) as Chairman of the National Republican Congressional Committee (NRCC). There will be a contest for House Republican Conference chair, with Georgia Rep. Tom Price and Washington Rep. Cathy McMorris Rodgers as the two front-runners.

House Democrats:

The House Democratic leadership is uncertain. Minority Leader Nancy Pelosi (CA) has postponed Democratic leadership elections until after Thanksgiving. If she wants to remain Minority Leader, she has the popularity among House Democrats to do that, but there is speculation that she could decide to step down.  If she does, Pelosi might want to push a more progressive alternative to current Whip Steny Hoyer (MD), who has been eyeing the top leadership spot for years. Hoyer is widely viewed as a more moderate Democrat than Pelosi and may try to change House Democrats’ policy direction in order to better position them to retake the majority in 2014. Current Assistant Democratic Leader James Clyburn (SC) could be expected to help Hoyer keep the caucus’s more progressive members in line as Minority Whip. Current Caucus Vice Chairman Xavier Becerra (CA) is expected to rise to the chairmanship of the House Democratic Caucus. Chris Van Hollen (MD), ranking member of the House Budget Committee, and Debbie Wasserman Shultz, head of the Democratic National Committee, are also considered players for House Minority leadership positions in the 113th Congress.

Senate Democrats:

In the Senate, Majority Leader Harry Reid (NV) is expected to keep his leadership position. It is presumed that Senator Richard Durbin (D-IL) will remain Majority Whip and that Senator Chuck Schumer (NY) will continue to play a significant role in forming the Democratic message as Vice Chairman of the Senate Democratic Caucus. Democrats will also be looking for a replacement for outgoing Democratic Senatorial Campaign Committee (DSCC) Chair Patty Murray (WA).  Possible contenders are Kirsten Gillibrand (NY), Sheldon Whitehouse (RI), Michael Bennett (CO), and Amy Klobuchar (MN).

Senate GOP:

On the Republican side, it is expected that Senator Mitch McConnell (KY) will remain Senate Minority Leader. Jon Kyl (AZ) is retiring, and either Republican Policy Committee Chairman John Thune (SD) or current National Republican Senatorial Committee chairman John Cornyn (TX) is likely to replace him as Minority Whip. Jerry Moran (KS) and Marco Rubio (FL) are considered contenders for the chairmanship of the National Republican Senatorial Committee if Cornyn becomes whip or policy chair. John Barrasso (WY) is likely to replace Thune as the chairman of the Senate Republican Conference, should Thune manage to grab the Whip post. Look for an energized conservative wing of the Republican party led by Senator Jim DeMint of South Carolina. It is expected that he will continue to work with Rand Paul of Kentucky, Marco Rubio of Florida, Pat Toomey of Pennsylvania, and others to represent the more conservative wing of the Republican Party in the Senate.

Committee Leadership Expectations

Leadership in some key congressional committees will look different next year.

House Agriculture:  Although Frank Lucas (R-OK) and Colin Peterson (D-MN) remain Chairman and Ranking Member, respectively, of the House Agriculture Committee, the Committee will see come significant changes in the 113 th Congress.  Tim Holden (D-PA) was defeated in a primary and Timothy V. Johnson (R-IL) is retiring.  Further, Leonard Boswell (D-IA), Bobby Schilling (R-IL), and Larry Kissell (D-NC) were defeated in the general election.

House Budget:  If current Chairman Paul Ryan (R-WI) stays in Congress, he will likely remain Chair of the Budget Committee.  If, as some have speculated, he chooses to retire from Congress, several members have indicated they could throw their hat in the ring: Scott Garrett (R-NJ), John Campbell (R-CA), Jason Chaffetz (R-UT), and Tom Price (R-GA).

House Energy & Commerce:  Although Fred Upton (R-MI) and Henry Waxman (D-CA) will remain the Chairman and Ranking Member, respectively, of the Committee, there will be some turnover among rank-and-file members.  At least four Republicans and five Democrats are leaving the panel. Reps. Cliff Stearns (R-FL) and John Sullivan (R-OK) lost their primaries, Rep. Charlie Bass (R-NH) lost his re-election bid, Rep. Sue Myrick (R-N.C.) is retiring. As of this writing, Rep. Mary Bono Mack (R-CA) is trailing by a thin margin to Democrat Raul Ruiz in the race for California’s 38 th district.  On the Democratic side, five members will exit: Reps. Mike Ross (AK), Charles Gonzales (TX), and Edolphus Towns (NY) are all retiring, and Reps. Tammy Baldwin (WI) and Jay Inslee (WA) gave up their House seats in order to run for Senate and governor in their respective states.  Rep. Stearns will leave behind the high-profile Oversight and Investigations Subcommittee gavel that could ignite a shuffling of subcommittee chairmanships. Top contenders for the oversight spot are Republican Reps. Marsha Blackburn (TN), Lee Terry (NE), and Michael Burgess (TX).

House Financial Services:  Current Republican conference Chairman Jeb Hensarling (TX) is set to take over the Financial Services Committee, replacing Spencer Bachus(R-AL). Maxine Waters (D-CA) is set to be the Ranking Members of the Committee, replacing retiring Democrat Barney Frank (MA).

House Judiciary:  Rep. Bob Goodlatte (R-VA) will replace the term-limited Lamar Smith (R-TX) as Chairman of the House Judiciary Committee.  John Conyers (D-MI) is expected to remain Ranking Member.

House Rules:  The House Rules Committee Chair is open.  Leading contenders to replace retiring Rep. David Drier (R-CA) are Doc Hastings (R-WA), current Natural Resources Committee Chairman, and Pete Sessions (R-TX), current chair of the NRCC.

House Ways and MeansLongtime Ways and Means Democrat Fortney Pete Stark of California lost his race to Democrat Eric Swalwell, a local council member and prosecutor, according to the Associated Press. Oversight Subcommittee Chair Charles W. Boustany Jr. (R-LA) must hold a runoff in December against fellow Republican Rep. Jeffrey M. Landry after Boustany fell short of a full majority.

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Senate Appropriations:  Sen. Daniel Inouye (HI) will remain Chairman of this powerful Committee, but current Ranking Member Thad Cochran (R-MS) is term-limited, and likely to be replaced by Sen. Richard Shelby (R-AL), who will exit his top spot on the Banking Committee.

Senate Banking:  Tim Johnson (D-SD) will remain Chairman, but term-limited Richard Shelby (R-AL) is likely to be replaced by Sen. Michael Crapo (ID).

Senate Commerce:  Senator Jay Rockefeller IV (D-WV) will remain Chairman, but Ranking Member Kay Bailey Hutchison (R-TX) is retiring. Tea Party favorite Jim DeMint (RSC) is next in line to be the top Republican on the Committee.

Senate Energy and Natural Resources:  Chairman Jeff Bingaman (D-NM) is retiring and will be replaced by Sen. Ron Wyden (D-OR).  Sen. Lisa Murkowski (R-AK) is likely to remain the committee’s Ranking Member.

Senate Environment and Public Works:  Barbara Boxer (D-CA) will stay on as Chair, while Ranking Member Jim Inhofe (R-OK) is term-limited and likely to be replaced by Sen. David Vitter (R-LA).

Senate Health Education and Labor:  Tom Harkin (D-IA) is expected to remain Chairman of the Committee, but Ranking Member Mike Enzi (R-WY) is term-limited and likely to be replaced by Sen. Lamar Alexander (R-TN).

Senate Homeland Security:  Delaware's Democrat Tom Carper (D-DE) will replace retiring Sen. Joe Lieberman as Chair, with Tom Coburn (R-OK) next in line to replace term-limited Susan Collins (R-ME).

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Legislative Expectations for the 113th Congress

The country is not facing the kind of economic crisis it confronted after the 2008 presidential election, but enormous challenges face President Obame and the 113th Congress. Prospects for economic growth are uncertain, and the nation’s long-term fiscal health is on an unsustainable path that will require immediate attention even before the new year. Tax and fiscal policy issues will be front-burner issues in 2013, though a number of other issue areas will be on the agenda as well.

Tax/Fiscal Policy

Due to expiring tax provisions and automatic budget cuts (sequestration) scheduled to take effect at the beginning of next year, serious tax and fiscal policy choices will have to be made in the coming year.  Indeed, it would not be an overstatement to say that tax and fiscal policy are likely to dominate the agenda in Washington for most of 2013.  The automatic policy triggers combined with a bipartisan desire to reduce the deficit and significantly reform the tax code will lead to efforts to pass a “grand bargain” that accomplishes both of those objectives over the long-term.  Because such a grand bargain is unlikely to be reached during the abbreviated lame duck session of Congress (see “Lame Duck Preview” section below), these issues will have to be confronted in 2013.  The key question is whether or not the election will have the effect of putting aside, even temporarily, the partisanship that has overshadowed the 112 th Congress. In order for any “grand bargain” to be reached, both sides will have to “concede” on some priority issues.

Although there is no uniform “Democratic” or “Republican” position heading into the upcoming negotiations, it is clear what both parties’ general objectives will be.  Democrats will generally be looking to extend current tax rates for “middle class” families, while increasing the tax rates for households with income above a certain threshold. President Obama has called for $250,000 to be the cutoff, while some Congressional Democrats have advocated a higher number such as $1 million.  The President’s victory –virtually unprecedented for a national candidate advocating for tax increases– will embolden Democrats on this issue though that doesn’t mean they will get the result they want. Republicans have advocated temporarily extending tax cuts across the board, with the ultimate objective of cutting marginal tax rates for all income levels in addition to eliminating certain deductions (or “loopholes”).

In addition to sequestration and the expiring Bush tax cuts, a variety of other tax provisions will need to be dealt with in the coming months. Perhaps most significantly is the alternative minimum tax (AMT): Unless Congress acts by the end of the year, more than 26 million households could face an increase of approximately $3,700 in taxes due to the AMT. Another important factor is that the federal debt ceiling will need to be raised by early 2013.  It is unclear when exactly the country will reach its debt limit, though it will likely be no later than March of 2013.  Not raising the debt limit, forcing millions of households to pay the higher AMT, $109 billion in budget cuts, and wholesale tax increases would be a disaster for the economy, which is why both parties have something to lose if no deal is reached. Because of the consequences for failing to raise the debt ceiling or “patch” the AMT, these could become vehicles for spending policy debates, and force both sides to reach a “balanced” compromise.  Look for the framework outlined by the bipartisan Simpson-Bowles Commission proposal to play a major role as the negotiations play out.

Financial Services

In the 112 th Congress, the expansive changes implemented by the Dodd-Frank Act continued to provide partisan fodder for both sides of the aisle.  While there has been talk of a partial repeal of selected Dodd-Frank provisions, chances for actually passing such measures through the Senate are unlikely.  It is expected that House Republicans—spearheaded by new Financial Services Committee Chairman Rep. Jeb Hensarling (R-TX), who replaces the term-limited and less ideologically combative Rep. Spencer Bachus (R-AL)—will continue to deride Dodd-Frank’s regulatory burdens and pass quixotic bills with little chance of becoming law.  Expect the GOP to continue its use of hearings to provide a platform to express opposition to Dodd-Frank’s implementing regulations, which will continue to be released over the next two years. 

Indeed, the real battleground over Dodd-Frank will be in the regulatory process.  Republicans, eager to scrutinize every agency action, have already taken aim at the Consumer Financial Protection Bureau (CFPB), the federal agency created by the Dodd-Frank Act and charged with implementing many of the Act’s consumer protection provisions.  After assuming its regulatory authority in July 2011, the CFPB has quickly moved to regulate in several areas including home foreclosure practices and other predatory lending practices.

Nonetheless, dogged by GOP claims that the CFPB is relying too much on informal guidance to accomplish its regulatory objectives, the agency will likely face renewed scrutiny from Congressional Republicans who oppose the agency’s existence in the first place.  The presence of Elizabeth Warren in the Senate will be felt on these issues as the CFPB was her idea and she only ran for Senate after it became clear Republicans would not confirm her appointment to run the CFPB.

Another lingering issue for reform is the role of Government Sponsored Enterprises (GSEs) Fannie Mae and Freddie Mac.  Many observers who view GSEs as a driving factor behind the “Great Recession” have repeatedly called for scaling down the GSEs or eliminating them altogether.  In an unusual display of bipartisanship, Democrats and Republicans as well as President Obama have signaled an interest in winding down and replacing the GSEs.  Perhaps unsurprisingly, they remain deadlocked on how to accomplish that result. 

Energy

On the House side, Republican Energy and Commerce Committee Chairman Fred Upton (R-MI) is likely to continue his push to facilitate energy independence by passing bills to remove barriers to domestic energy production.  This will include pushing back against EPA Clean Air Act regulations burdening oil and gas companies and coal companies (such as those relating to greenhouse gases, National Ambient Air Quality Standards, and Maximum Achievable Control Technology) and supporting construction of the Keystone XL Pipeline. Over the last two years, the House passed a plethora of bills affecting the energy sector, none of which made it out of the Democratic Senate.  There is little reason to expect a different approach in the 113th Congress. Energy and Commerce Democrats will continue to be led by Henry Waxman (D-CA).

In the Senate, there will be several changes on the Energy and Environment panels.  Senate Energy and Natural Resources Committee Chairman Jeff Bingaman (D-NM) is retiring, and Sen. Ron Wyden (R-OR) is in line to succeed him as the panel’s top Democrat. Sen. Lisa Murkowski (R-AK) will remain the committee’s top Republican.  The GOP leadership on the Environment and Public Works Committee is likely to change as well.  The Ranking Member, Sen. James Inhofe (R-OK) is term-limited and expected to become the top Republican on the Senate Armed Services Committee. Replacing him as Ranking Member will likely be Louisiana Senator David Vitter. Sen. Barbara Boxer will remain The EPW Committee’s Chair.

Although partisan gridlock is likely to continue on the EPW Committee, Sens. Boxer and Vitter have worked well together on transportation issues, and passing a transportation bill that authorizes highway spending longer than the two-year deal Congress passed in June will be on the agenda, as will an update to the Water Resources Development Act which authorizes the projects and programs of the US Army Corps of Engineers. 

The Energy and Natural Resources Committee has been more bipartisan than other Congressional energy committees, in part due to outgoing Senator Bingaman’s good relationships with Republican counterparts.  Sen. Wyden would bring a similar style but several major policy differences.  Wyden wants to move legislation that will cut fossil-fuel emissions and promote renewable energy, but also supports the oil and natural-gas breakthroughs owing to so-called “fracking” technology.  The Congress is probably not ready for that yet, but expect Wyden and Murkowski to pass smaller, less divisive bills that could make it through a divided Congress. Also look for an attempt at a clean energy standard, the promotion of nuclear energy, clean coal initiatives, and other ideas to create “green jobs” in a “green economy.”  Those types of ideas could draw bipartisan interest.

On the regulatory front, expect the EPA to continue implementing carbon-reduction policies, as well as support for wind and solar power through loan guarantees, cash grants, and tax credits. 

One long-shot to be aware of is the fact that a carbon-tax could become an attractive revenue-raising option for Congress.  Murkowski has shown some openness to that approach and, if she could bring other Republicans along, it could get some momentum.  As Congress works to pass broad-based deficit reduction legislation, a $20-per-metric ton Co2 tax would have brought the government $88 billion in revenue in 2012, increasing to $144 billion by 2020.  Although it remains unlikely, as it would be staunchly opposed by House Republicans and the oil and gas industry, it is something stakeholders should keep an eye on as deficit-reduction talks progress.

Healthcare

While the economy and unemployment remained at the heart of political debate for a second straight election cycle, public opinion polls and campaign advertising make clear that the Patient Protection and Affordable Care Act (PPACA) remains an important issue for many voters.  With the Supreme Court’s 5-4 decision in June to uphold most of PPACA’s provisions, most of the major legal roadblocks to implementing the controversial healthcare law have been removed.

House Republicans will continue to advocate for PPACA’s repeal but that won’t happen with a Democratic Senate.  Instead, focus will move to fixing parts of the law and oversight of the rulemaking process.  House Oversight Committee Chair Darrell Issa (R-CA), for example, has subpoenaed the Department of Health and Human Services (HHS) for records on the Medicare Advantage program.  These types of efforts will proliferate in the new Congress.

In the near term, the healthcare focus will remain on HHS and other agencies, such as the Internal Revenue Service and Department of Labor, to issue regulations to implement major PPACA provisions—most of which take effect on January 1, 2014.  Most notably, these include state benchmark plan selections involving essential health benefits provisions; various employer obligations, including the definition of full-time employee, penalties for not providing adequate coverage, and auto-enrollment requirements for new employees when employed by an employer of 200 or more employees; and the notice of exchange and subsidies that must be provided to employees.  HHS has borne substantial criticism for not providing regulatory clarity.  For example, a dozen states have already refused to identify a benchmark plan, blaming ambiguity and a lack of direction on the part of HHS in carrying out its rulemaking processes.  As the January 1, 2014 implementation date approaches, expect attention to and criticism of these agencies to increase in both scope and frequency.

Trade

The lame duck session of Congress will likely include votes on whether to grant Russia permanent most favored nation (MFN) trade status, which would allow the United States to receive the market opening benefits of Russia’s accession to the WTO.  The votes on granting Russia MFN status are likely to be paired with votes on legislation that would sanction certain human rights violators.  The votes were delayed until after the election for political reasons, but the legislation is likely to pass.

There is also a possibility that the long delayed miscellaneous tariff bill could be addressed during the upcoming lame duck session.

A top priority for the Obama Administration during the second term will be to conclude the Trans-Pacific Partnership (TPP) negotiations, which currently involve eleven countries (Canada and Mexico officially joined the negotiations earlier this fall).  The 15th round of negotiations is set for early December in Auckland, New Zealand.  The parties still have significant issues to resolve, such as state-owned enterprises, intellectual property, textiles, tobacco and others.  We expect the Obama Administration will request Trade Promotion Authority for the TPP from Congress when the negotiations are at a more advanced stage.

Another priority for the Obama Administration will be to pursue opportunities to expand and deepen the US-EU trade relationship, including a possible free trade agreement.  In addition, the US will continue to negotiate investment treaties with multiple countries, including China and India.

We expect continuing bipartisan support for strong trade enforcement, including vigorous pursuit of WTO dispute resolution, particularly to address perceived Chinese injurious imports in the United States or to address barriers to US trade and investment in China. 

Telecom/Internet

Telecom issues have not traditionally divided along partisan lines.  The Telecommunications Act of 1996, for instance, was a bipartisan bill that brought some resolution to decades of fighting over the breakup of the Bell Companies.  Congress and regulators have wrestled with implementation since that time.  In recent years, the big fights at the Federal Communications Commission (FCC) and in the courts have revolved around regulation of the Internet, which barely received a mention in the 1996 Act.

Online privacy is certain to continue playing a major role in the telecommunications debate.  The FCC and the Federal Trade Commission (FTC), as well as the Obama Administration, have all released plans restricting to varying degrees how companies can collect and utilize consumers’ personal information.  At this point the Administration has been permitting a self-regulatory process to play itself out, but there is a question as to how much patience regulators will have.  Expect increased calls for legislation if the self-regulatory process stalls or if there is a major “scandal” involving companies’ use of consumers’ personal information. For his part, Senate Commerce Committee Chairman Jay Rockefeller IV (D-WV) has been a privacy hawk, introducing so-called “Do-Not-Track” legislation restricting Internet companies’ ability to monitor consumer behavior online. Senator Al Franken (D-MN) will continue to use his Judiciary subcommittee on privacy to scrutinize companies’ use of geolocation and facial recognition technology. 

These efforts could provide starting points for privacy legislation, but any efforts along these lines could conflict with a bipartisan desire for a vibrant Internet economy and user experience. That makes it unlikely that any bills will be approved over the objection of the Internet community, whose clout on Capitol Hill has been enhanced over the last two years after its intense and effective grassroots opposition to online piracy legislation. Because behavioral advertising is considered the foundation of the Internet economy, policymakers will have to tread lightly.

Cybersecurity is also an issue likely to play a role in both the lame duck and the 113th Congress.  While all legislators acknowledge the importance of defending the nation’s critical infrastructure against cyber attacks, there is a fundamental ideological disagreement over how to achieve it. Republicans tend to prefer an approach that is limited to government facilitation of information-sharing and liability protections for the private sector, while Democrats have for the most part insisted on mandating certain sectors to achieve a minimum level of cybersecurity protection.  It is unclear how this gap can be bridged short of a major cyber attack. However, the Obama Administration has drafted an executive order that would create a new cybersecurity regulatory regime, with the lead role going to the Department of Homeland Security. This approach has not attracted Republican support, but if Congress proves unable to pass a bill on its own, most observers believe the Executive Order is inevitable.  Senator Reid has said he will bring up the comprehensive cybersecurity legislation the Senate failed to pass earlier this year during the lame duck session.

On the regulatory side, the FTC is considering filing an antitrust suit against telecom giant Google. Although such a suit is by no means certain, if the Commission does take Google to court it will echo the major Microsoft antitrust litigation in the 1990s.  Google, like Microsoft, has drawn complaints from rivals and regulators as it has expanded its business beyond its principal product, search and search advertising, to other fields such as online commerce and smartphone software.  The FTC’s inquiry is moving in tandem with a major antitrust investigation in Europe, both of which hold major implications for the tech industry as a whole.

Current FTC Chairman Jon Leibowitz is widely expected to step down in the near future.  President Obama is likely to choose his successor from the two other current Democratic FTC members, Julie Brill and Edith Ramirez, who have been on the Commission since April 2010. Ms. Brill has been a particularly outspoken advocate of increased online privacy protections for consumers.

Lame Duck Preview

Due to expiring tax provisions and automatic policy triggers that will take effect at the end of this year, serious economic policy choices will be in play during a lame duck session of Congress after the election. The decisions made during the lame duck session could have far-reaching economic effects, as well as profound consequences for the next Congress and the Obama Administration.

The automatic policy triggers—a combination of large cuts to defense and social programs and large tax increases on all Americans—are interrelated with tax reform and entitlement reform.  Unless several of these issues are addressed simultaneously, it is difficult to see how Congress can implement any major policy change. 

Expiring Tax Cuts

The so-called “Bush tax cuts” are scheduled to expire on December 31, 2012.  Expiration would raise rates on investment income, estates and gifts, and earnings at all levels.  The current six income rate brackets of 10%, 15%, 25%, 28%, 33%, and 35% would be replaced by five new brackets with the higher rates of 15%, 28%, 31%, 36%, and 39.6% if the tax cuts expire. This would substantially increase the amount of taxes most American households pay.  These tax cuts are so far-reaching, wholesale expiration of these provisions is unacceptable to Democrats and Republicans alike.

Also, the recently extended payroll tax cut will revert to 6.2% from the current 4.2% rate, and nearly 30 million families will have to pay the alternative minimum tax, which would add thousands of dollars to the average tax bill.

Further, the capital gain rates for individuals are scheduled to increase, as are the rates at which stock dividends will be taxed. Currently, a 0% rate applies to long-term gains and dividends collected by individuals in the lowest two rate brackets of 10% and 15%. When the Bush tax cuts expire, these individuals will pay 10% on long-term gains and 15% and 28% on dividends unless a change is made. This scenario is particularly unpopular in the business community, which largely views higher taxes on investment as hindering growth. Utilities and energy stocks in particular would take a hit, as these stocks tend to pay substantial dividends, so a higher tax on dividends will make these equities less desirable.

The so-called “marriage penalty” will also return. Currently, the standard deduction for married joint-filing couples is double the amount for singles.  Starting next year, however, if the marriage penalty returns, the joint-filer standard deduction will revert to approximately 167% of the amount for singles.  Further, the amount of an estate exempted from taxes is scheduled to drop significantly from $5,120,000 in 2012 to $1,000,000 in 2013, and the estate tax rate is scheduled to jump from 35% to 55%.

Also expiring at the end of the year are popular, bipartisan provisions, such as the research and development tax credit, the subpart F active financing exception, and language allowing individuals to deduct their state and local taxes from federal tax payments.

In sum, allowing the Bush tax cuts to expire would harm Democrats’ and Republicans’ core constituencies, while simultaneously damaging the already-fragile economy. Because neither party wants to see this happen, there is a bipartisan desire for broad tax reform.

Sequestration

On top of the scheduled expiration of the Bush tax cuts, automatic cuts to federal agencies are scheduled to take effect in January 2013 as a result of the “debt limit” deal reached in 2011. Under the debt limit deal (known as the Budget Control Act), if a bipartisan committee (that came to be known as the “super committee”) was unable to agree on a $1.2 trillion deficit reduction package, a budget “sequester” would take effect in January 2013. Like the expiration of the Bush tax cuts, the sequester would harm Democrats’ and Republicans’ core constituencies (the former because it cuts social programs, the latter because it cuts defense) and damage the economy. Thus, there is considerable speculation as to whether it will ever take effect.

The sequestration process itself is not new, as there have been five times in history when a sequestration has been triggered.  However, the sequestration process has never been used for spending cuts of this magnitude.  It would include across-the-board spending cuts to government programs.

While President Obama at one point threatened to veto any effort to alter the sequester as it is currently written by saying “there will be no easy off-ramps on this one,” he also said during the presidential debates that sequestration “will not happen.”  The debate answer damaged the President’s negotiating position going into the lame duck.

The first automatic cuts are scheduled to take effect January 2, 2013, and will fall equally on defense and non-defense accounts, including both discretionary spending and some mandatory or entitlement spending. The second sequester will occur a month later, when the President submits his budget for fiscal 2014.  The sequester will change the caps on that year’s discretionary spending levels and impose across-the-board cuts in mandatory programs. Subsequent sequesters will occur each year with the submission of the president’s budget request.  Medicaid, Social Security, veterans’ spending and programs for low-income Americans will be largely exempt from automatic cuts.  Medicare cuts can amount to no more than 2% of the program’s outlays, and they will affect only payments to providers, not to beneficiaries. Many Democrats have said the proposed cuts to social services programs are unacceptable and should be reversed.

Some lawmakers have begun discussing reversing certain portions of the sequestration. There has been particular concern that the sequester’s cuts to defense spending are too damaging and excessive. Congressional hawks, as well as Defense Secretary Leon Panetta, note that Pentagon spending already will be cut by $465 billion over ten years under separate spending caps, and additional reductions could therefore mean a 25% reduction in the defense budget for fiscal 2013. Secretary Panetta has said the cuts would be “devastating” to national security, resulting in “the smallest ground force since 1940, the smallest number of ships since 1915, and the smallest Air Force in its history.” Or as the Pentagon Undersecretary for Acquisition said, the cuts were “intended to be so crazy that nobody would ever do it.”

Both Democrats and Republicans have said they want to address the sequestration issue. The path to altering the sequester trigger is a complicated one, however, and tends to lead the two parties to revert back to last year’s deadlocked debate. Democrats say tax increases need to be part of the equation to reach the $1.2 trillion in deficit reduction that would turn off the sequester.  Republicans have resisted. Republicans want to tackle entitlement spending to reach the necessary reductions without raising taxes, which Democrats and the President oppose.

How It Could Play Out

Over the last several weeks, a bipartisan group of senators known in Washington as the “Gang of Eight” have held in-depth, private talks about the fiscal cliff.  Although no formal proposal for avoiding the approaching expiration of the Bush tax cuts and sequestration has been released, the senators are continuing to meet in search of what they call a “workable solution” to avoid falling off the cliff.

Interestingly, the Gang of Eight recently held a three-day retreat in Virginia’s Mount Vernon, where they met with former Sen. Alan K. Simpson and Erskine Bowles, the former co-chairmen of the special commission aimed at forging an agreement between Democrats and Republicans.  The Gang of Eight has reportedly been focusing on framing a compromise package of spending cuts and revenue-raising measures similar to the blueprint compiled by Simpson and Bowles.

It is becoming increasingly apparent that Congress is unlikely to reach any grand bargain for long-term deficit reduction and broad-based tax reform during the impending lame duck session.  It is also unlikely that Congress will simply allow the tax cuts to expire and the spending cuts to take effect, as this would harm both Democrats’ and Republicans’ core constituencies. It is likely that the proposal set forth by the Simpson-Bowles Commission—which has received bipartisan praise on the campaign trail this fall—could ultimately serve as the foundation for a compromise.  In the meantime, look for Congress to delay its decisions (and the tax increases and spending cuts on taxes) into next year in order to agree on a compromise.

Given that falling off of the fiscal cliff is anathema to Democrats and Republicans alike, and that reaching a grand bargain in an abbreviated lame duck session is unlikely, the challenge is for Congress to develop a short-term solution delaying sequestration and the Bush tax cuts until sometime next year, while showing that Congress is serious about reaching an agreement.  Thus, the real work in the lame duck will be structuring this delaying mechanism.

This is where the Simpson-Bowles proposal could come in.  Inevitably Congress will need to agree upon the ultimate size of the deficit reduction to be contained in the grand bargain.  The Simpson-Bowles Commission provides a good starting point for this discussion.  The Commission called for $4 trillion in deficit reduction–$2 trillion achieved through spending cuts, $1 trillion in additional revenue, and $1 trillion in reduced interest payments on our debt. 

These targets should serve two purposes for the coming negotiations: First, under any agreement reached during the lame duck, a new “fiscal cliff” based on the more politically palatable Simpson-Bowles proposal could be triggered if Congress does not reach a grand bargain by a certain date next year.  Second, the savings and revenue targets outlined in the Simpson-Bowles proposal could serve as the targets for congressional committees to devise their own spending cuts and/or revenue measures. 

In other words, in the upcoming lame duck session Congress will need to develop various mileposts that must be reached throughout 2013 in order to avoid a new fiscal cliff based on the Simpson-Bowles proposal.  These mileposts could utilize two procedural mechanisms that were designed to facilitate this type of complex, politically cumbersome budget process.  The first mechanism is “budget reconciliation” and the second is the “deeming resolution.” 

Budget reconciliation is a procedural option that allows Congress to change existing law in order to reconcile spending and revenue levels with previously determined policies contained in a budget resolution.  Under this process, Congress in the lame duck will instruct congressional authorizing committees to develop legislation achieving target budgetary outcomes as developed by Simpson-Bowles. This would have to be achieved by a certain date, such as March 1st, to avoid triggering a new fiscal cliff.  The authorizing committees would then be required to submit their recommendations to their respective Budget Committees by a later deadline, and the Budget Committees would incorporate the various committee recommendations into an omnibus budget reconciliation bill to be considered by each chamber of Congress. 

The key advantage to budget reconciliation is the expedited procedure under which it is considered by the House and Senate.  Importantly, debate in the Senate on any reconciliation measure is limited to 20 hours and amendments must be germane (i.e. , a reconciliation measure cannot be filibustered).  The House has comparable restrictions.  By a later date in 2013 (e.g. , August 1st), each respective chamber would need to adopt its budget reconciliation bills.  Additional milestones would need to be provided for conference committee action and ultimate passage and signature by the President. 

Failure to reach any of these milestones would result in the new fiscal cliff being “deemed” to be passed by Congress.  A deeming resolution allows the House and Senate to use normal legislative procedures to deal with budget impasses on an ad hoc basis.  In other words, it is legislation that functions as an annual budget resolution for purposes of establishing enforceable spending and revenue levels for next year’s budget cycle in the event Congress does not adopt a budget resolution.  Any deal reached in the lame duck session to delay the fiscal cliff will therefore need to incorporate a deeming resolution, and one of Congress’s most important and difficult tasks in the lame duck session will be crafting legislative language enforcing the new fiscal cliff in the event any benchmarks are not met. 

In all, the elections did not answer the questions about how the President and Congress could work together to make new policy.  The same players will face the same divides.  It is too early to tell whether the election results will convince any of the primary negotiators –the President, Speaker Boehner, and Majority Leader Reid– to look for new ways to achieve compromises.  The choices on the table, however, are stark enough to be action-forcing events and they will either find a path to compromise or someone will face strong political backlash of the sort that could re-align the electorate going forward.