Fiscal Cliff Talks: Stop-Gap Fix Most Likely Outcome

Hopes For Best-Case Fiscal-Cliff Scenario Have Faded

* Hopes for "grand bargain" have faded

* Obama sticks to demand for tax hikes on wealthy

* Republicans hold out for deeper spending cuts

By Richard Cowan and Fred Barbash

WASHINGTON, Dec 22 (Reuters) - The "fiscal cliff" deadline is days away and the U.S. Congress and President Barack Obama have left town for Christmas.

But even if they were still here, it wouldn't have mattered, according to Steny Hoyer, the second-ranking Democrat in the House of Representatives. He says they were going nowhere to resolving the disagreement over how to fix the nation's fiscal problems.

Last month's dreams of a "grand bargain" of tax hikes and spending cuts seem long gone. They had been reduced to more modest bargains in mid-December, and as 2013 approaches, are on the verge of relegation to a "stop-gap measure," at best the sort of temporary fix that Congress undertook in 2011.

A stop-gap that puts everything off for a while but resolves nothing is now the most promising alternative, if there is to be one, to the across-the-board tax hikes and spending cuts described as a "fiscal cliff" because they threaten to send the U.S. economy plunging into another recession.

It is also the way fiscal showdowns have ended in Washington in recent years.

Such a fix, at best, would delay the spending cuts and tax hikes further into 2013 as well as work to address in a long-term way a government budget that has generated deficits exceeding $1 trillion in each of the last four years. Even worse, it would set up a huge fight in January and February over raising the U.S. debt ceiling, which controls the amount of money the federal government can borrow.

Dysfunction in Washington was specifically cited as one of the reasons rating agency Standard & Poor's cut the U.S. debt rating to AA-plus after a battle over the debt ceiling in 2011. That alone - not to mention going over the cliff - could lead to another rating cut.

At worst, the new year could start with a full-fledged jump off the 'cliff,' with an understanding, communicated to financial markets, that Congress and the White House would come back and try again for a solution.

Given the apparent deadlock, some congressional aides this week said that Washington needed to begin telegraphing to Wall Street that markets should not panic if a "fiscal cliff" deal is not struck in December.

The goal, one aide said on condition of anonymity, is to avoid starting 2013 with a steep stock market drop like the one the U.S. suffered in 2008, when the country's financial industry was falling apart and Congress was divided over what to do.

On Friday, Obama acknowledged that only small steps might be possible with so little time remaining.

Those, the Democratic president said, would consist of extending benefits for the long-term unemployed and keeping income tax rates low for 98 percent of Americans - meaning raising taxes on households with net incomes above $250,000 a year but not for those earning less.

He held out the possibility of something "comprehensive," as he put it, but it had a hollow ring at the close of a work week that saw House Speaker John Boehner step back from negotiations and pursue a partisan plan that even some of his fellow Republicans could not stomach.


The steps that Obama outlined were immediately rejected by Republicans, who have given ground on their previous steadfast opposition to any tax hikes but are still demanding that the White House agree to more substantial spending cuts.

"The president has failed to offer any solution that passes the test of balance," declared Boehner spokesman Brendan Buck, minutes after the end of Obama's statement on Friday.

On Saturday, a spokesman for Senate Republican leader Mitch McConnell was similarly dismissive, noting Obama's call had neither bipartisan support nor spending cuts to ride along with tax increases.

McConnell, on Friday, suggested bringing up a House-passed bill that extends current tax rates for all Americans, including the top earners, and then pushes for comprehensive tax reform next year that theoretically could raise new revenues to help cut deficits.

But Obama has promised repeatedly to veto any extension of the expiring Bush-era tax cuts that fail to hike rates for the wealthy.

And Democrats, who control the Senate, have dismissed the McConnell idea, arguing that Obama ran his successful 2012 re-election campaign on a promise of forcing the wealthy to bear more of the burden of deficit reduction.

Democratic aides in Congress think their own bill implementing Obama's $250,000 income threshold, which passed the 100-member Senate in July with 51 votes, could breeze through this month, or next year after the "fiscal cliff" is breached.

The prospect of a breach is being discussed far more seriously now, and not just as a bluff or to set up the other side for blame.

"I think we're going to go over the cliff," said Republican Representative Patrick Tiberi of Ohio. "I don't see something getting done."

In an MSNBC interview Friday, Hoyer, a 31-year veteran of Congress from Maryland, said it wouldn't matter if everyone was in Washington instead of on holiday.

"Frankly, we've been in town for four weeks and members haven`t been doing much," he said, calling it "one of the least productive times that I've been in Congress."

Even Obama speaks of "a mismatch" between how people are thinking about the looming tax hikes and spending cuts "outside of this town and how folks are operating here. And we've just got to get that aligned," he said in his statement.

ITG Investment Research Chief Economist Steve Blitz on Saturday said sliding the "fiscal cliff" negotiations into the new year was not a huge deal. "I think markets will pressure for a deal in January," he said.

The "pressure" could be in the form of a significant stock market drop, which would hit workers' retirement plans, threaten to deter consumer and business spending, and possibly rattle other countries' economies at a time when the global economy is far from robust. (Additional reporting by Rachelle Younglai; Editing by Martin Howell and Paul Simao)

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