After nearly two months of political wrangling, Congress finally reached a last-minute agreement late Tuesday evening to avoid sending the U.S. economy cartwheeling over the so-called “fiscal cliff”, the series of broad-based tax increases and automatic cuts to government spending that were borne from the deficit reduction agreement (a.k.a. the Budget Control Act) reached back in August 2011.

While the agreed upon legislation – entitled the American Taxpayer Relief Act of 2012 – is too modest to reduce the federal deficit in a meaningful way and essentially kicks the more contentious debate surrounding spending cuts to defense and entitlement programs down road, it should prevent consumers and businesses from locking up their wallets and throwing away the key.
Essentially the law will see federal revenue rise through a series of tax increases on wealthy households – a top rate income tax increase, adjustments to exemptions and itemized deductions, and higher rates on capital gains and dividends. 

As far as low-income and middle class households are concerned – or the primary consumers of used vehicles – the legislation will prevent an increase in income taxes but will not stop the expiration of a 2 percentage point payroll tax reduction that was enacted two years ago to help stimulate the economy. 

While this means that American households making between $40,000 and $50,000 will face an average tax increase of $579 in 2013, according to the Tax Policy Center's analysis, the expiration of the payroll tax “holiday” was largely expected.  A hit to the pocketbook to be sure, but the increase isn’t expected to do much to derail overall consumer spending. 

NADA’s most recent used vehicle price forecast for Q1 2013 essentially had a similar form of fiscal compromise factored in, which means that we’re still expecting used vehicle prices to dip by a slight 0.4% in the quarter relative to Q1 2012.  So despite the lathered build up to the fiscal cliff resolution, the compromise will be enough to prevent an acute decline in used prices, meaning they should remain at a high level by historical standards near-term.  

That being said, the fallout from the deficit agreement will continue to pose some risk to used vehicle prices over the coming months.  

The last minute deal means that the typical first quarter surge in demand that coincides with consumers receiving their tax rebate checks could be deferred as households may have to wait longer to file returns because the IRS must implement changes associated with the new law. 

This would cause dealers to adjust inventory acquisition timing, which might catch some by surprise since many have become accustomed to building up supply earlier in the quarter over the past few years because the increased use of online filing has put rebate checks into consumer hands faster. 

In addition, the U.S. has once again exceeded the debt limit set by Congress in two summers ago.  While the Treasury has emergency power to keep the government running for a few more weeks, the reprieve will only last through early February.   

Since Congress must act soon to once again extend the debt ceiling, the stage is set for a repeat of the querulous debate that took place less than two years ago that led to a U.S. debt-downgrade, helped tamp down consumer confidence and used vehicle prices. 

Complicating matters, as part of the legislation just approved by Congress, the $100+ billion cut to federal spending that was to take place on January 2nd was only delayed for two months. This threat will be sure to exacerbate negotiations between politicians as they grope their way to another compromise aimed at reining in the federal deficit. 

While the industry and the economy as a whole dodged a rather large bullet this week, there remain residual clouds on the horizon.  Unfortunately the outcome and impact are largely dependent on how constructively our elected leaders choose to work together.