Fiscal Cliff, US Dollar Hinges On Key Issues

With US President Barack Obama meeting with congressional leaders today about the impending fiscal cliff, the market is on watch mode.  And, given the fact that both sides have declared their stances, it’s unlikely that a resolution will be forthcoming any time soon.  The indecision will likely keep this debate going till the end of December, adding downward pressure on the US dollar.  Here are some of the debate’s major sticking points.

Higher Taxes

Since the beginning of the debate, President Obama has stood behind the goal of raising taxes on the country’s higher earners.   More specifically, the President is set to allow the Bush era tax cuts to expire, raising income taxes to 39.5% from 35%for individuals earning more than $250,000 – which could raise more than $800 billion in tax revenue over the next 10 years. At the same time, he is looking to keep current income tax rates for below $250,000 earners constant.  Republicans are against such a measure, arguing that the Bush era tax cuts must be extended in order to support economic growth. 

A Reduction in Deductions

Instead of higher income taxes, Republican representatives have highlighted the option of a reduction in deductible items applied by the country’s wealthiest individuals and families. This decrease in deductions would essentially increase the taxes paid by the household or individual, still creating tax revenue for the US government.  But, the amount would fall short of revenue generated by raising overall tax rates – supported by the President.

A Reduction in Spending

Any deal with Republican leaders will most certainly need to include a reduction in spending, particularly in entitlement programs like Medicare.  And, although President Obama has refused to make concessions in the past, he has recently noted a reluctance to rule out any potential changes.  Particularly, the US President has noted a willingness to raise eligibility by two years to 67 from the previous minimum of 65 years.  The increase would be part of cost cutting campaign, and add to an already estimated $1 trillion in savings from ending the wars in both Iran and Afghanistan.

Effects on Currencies

These key points are likely to keep both sides far apart on the bargaining table, extending the debate and bringing the world’s largest economy closer to the activation of the fiscal cliff. The sentiment will weigh on dollar bulls, especially against the European Euro.  Although the EU is still in the midst of a financial debacle, bearish effects from the US fiscal cliff will likely trump Euro pessimism.  This is especially true when considering the cliff is anticipated to erase about 1-2% off US economic growth in the first half of 2013.

The technical picture coincides with the fundamental outlook as the EURUSD has broken through key long term resistance at 1.2809, although retracing back a bit over the last week or so. Major support is now seen at 1.2650, which is a confluence of the 1.4939-1.4245 descending trendline and 1.2627 January 16th session low.  Technical oscillators are supportive of the move higher, focusing on a retest of 1.3129 resistance.


Source:  FXTrek Intellicharts

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