On their return to Washington, DC, this week members of the House and Senate plan to spend little time in Washington before the election, as party-control, particularly in the Senate, is up for grabs. If the current schedule holds, Congress will only be in session for three weeks (with a one-week recess midway) before adjourning October 4th for the election.

As we mentioned in our last update, a key fiscal stumbling block was overcome in July, when Senate Majority Leader Harry Reid (D-NV) and House Speaker John Boehner (R-OH) agreed on a six-month Continuing Resolution. The vote in the House is expected later this week, as the CR is expected to pass overwhelmingly in both chambers before Congress adjourns., Once approved, the bill will prevent the possibility of a government shutdown when the current fiscal year expires on September 30th.

Although a budget showdown should be avoided and the legislative agenda in Congress will likely be light – at least through early November, related concerns – sequestration and the “Fiscal Cliff” – have been thrust back into the forefront in recent weeks and days. With this report, we have taken a step back to outline some of the most relevant fiscal and public policy issues making news in Washington this week.

Despite Continuing Resolution, Sequestration and the Fiscal Cliff Loom

In August 2011, President Obama and the Republican-controlled House of Representatives were in the midst of a tense standoff. The Treasury Department was on the verge of reaching its congressionally authorized debt limit; and its requests to Congress for an increase (traditionally a noncontroversial measure) were strongly opposed by Republicans in the House, who contended that taking steps to reduce our nation's growing debt outweighed any consequences that would result if the United States defaulted on its obligations. At the 11th hour, a deal was struck: Congress would approve an increase in our nation's debt limit, and in return, the President would sign legislation, known as the Budget Control Act, that would endeavor to drastically reduce federal spending.

The Budget Control Act reduces spending through several mechanisms. First, it places statutory caps on discretionary spending from FY2012 through FY2021 ($917 billion savings over ten years). Second, it established a Joint Select Committee on Deficit Reduction, made up of members of the House and Senate who were instructed to develop legislation that would reduce the federal deficit by at least $1.5 trillion over that same 10-year period. To ensure that the committee would be taken seriously, the Budget Control Act included a "poison pill" provision stating that should the committee's work fail to yield legislation, a series of across-the-board cuts, known as sequestration, would be triggered.

On November 21, 2011, the committee announced that it was unable to reach an agreement by the statutory deadline and sequestration was triggered. As a result, on January 2, 2013, a budget wide $1.5 trillion automatic spending reduction process will be begin. For FY 2013, this will amount to an across-the-board spending reduction totaling $109 billion. The cuts will be split evenly, with $54.7 billion being cut from defense and $54.7 billion cut from non-defense spending. In each succeeding year, similar reductions will occur through FY 2021.

Depending on the source, the amount of across-the-board cuts that would be required in programs subject to sequestration range between 8.5 percent and 10 percent for fiscal year 2013. Making these cuts even more complicated is that the Budget Control Act does not permit agencies to choose how it absorbs the cuts. For example, the Secretary of Health and Human Services will not have the authority to make a deeper cut in one program to protect another from being reduced. Every line item in the budget, must be cut by the same percentage.

Making these anticipated cuts more burdensome, since sequestration does not begin until January 2, 2013, three months after the start of the new fiscal year, programs that operate at a fairly steady spending level during each month of the year would have to make cuts during the nine-month period that the sequestration is in effect. On a percentage basis the cuts would have to be about a third larger than the 8.5 percent to 10 percent required for the year as a whole. As a result, such programs would face cuts of between 11.3 percent and 13.3 percent during that nine-month period.

In his FY 2013 budget proposal to Congress, President Obama proposed eliminating the sequester for all nine years, instead reforming the tax code to increase rates on upper-income earners, eliminating agriculture subsidies as well as corporate tax loopholes. That suggestion was uniformly rejected by House Republicans who instead put forth their own plan. The House FY 2013 Budget Resolution (H.Con.Res. 112), which was authored by Republican Vice-Presidential nominee, Representative Paul Ryan (R-WI), would eliminate the sequester for FY 2013 only, and instead reduces the deficit by reducing domestic spending on both mandatory programs like Medicare, and discretionary spending on programs supporting implementation of the Affordable Care Act among others.

Late last week the White House, its FY 2013 budget not approved, missed a reporting deadline relevant to sequestration. The report, legislatively mandated by the Budget Control Act, was to have provided detail to governmental agencies and to Congress as to how implementation of the sequester would be undertaken. Partisan sound bites followed, including a commitment by the administration that the report would soon be finished and submitted.

The limited amount time left before the election, coupled with the political reality that neither Democrats or Republicans want to be seen as compromising on this volatile issue, makes passing legislation eliminating or reducing the sequester in September very unlikely. The most likely scenario is that Congress will try to pass legislation either during the lame duck session or early next year, once the new Congress has been sworn-in.

Other Pending Issues Impacting the U.S. Economy

The stakes for the U.S. economy if Congress does not address the fiscal issues facing the nation were made more clear earlier this week, when the ratings agency Moody's announced that if the government did not act, it risked lowering the nation’s bond rating from AAA. You may recall that after a lengthy standoff over the debt last year, Standard & Poor’s downgraded the United States’ credit worthiness.

In addition to sequestration, there are a number of issues pending in Congress that will directly impact the economy. By the end of the year, the tax rates installed during the Bush Administration will expire, as will the payroll tax cut, first passed in 2010, as well funding for unemployment insurance. We do not anticipate action on any of these matters until after the election. To date, the President has only endorsed extending the Bush tax rates for those making less than $250,000 a year, while also extending the payroll tax cut and unemployment insurance. The Republican-controlled House has supported an extension of all existing tax rates while remaining uncommitted on the payroll tax cut and unemployment insurance.

The Presidential Race “Heats Up”

With just 55 days left until the 2012 general elections, and the Republican and Democratic national conventions behind us, the race for President of the United States enters the home stretch. The contest at this point appears to be too close to call, with President Obama and Governor Romney polling very closely, without either gaining an apparent advantage on the crucial issues, in several key battleground states including Colorado, Florida, North Carolina, Ohio, Pennsylvania, Wisconsin and Virginia. Media coverage on the race is nearly constant at this point, as are candidate, party and related advertisements – at least in the battleground states, and the campaigns appear to be jockeying to score points within each news cycle. The 2012 Presidential and Vice-Presidential debates have been announced and scheduled as follows:

Wednesday, October 3 - Presidential debate at University of Denver in Denver

Thursday, October 11 - Vice Presidential debate at Centre College in Danville, Kentucky

Tuesday, October 16 - Presidential debate at Hofstra University in Hempstead, New York

Monday, October 22 - Presidential debate at Lynn University in Boca Raton, Florida