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Sequestration Explained

Updated on May 6, 2013

What is Sequestration?

Now that the 2012 Presidential elections are in the rear mirror and President Obama has been re-elected for a second term, Congress is turning its attention to a pressing policy issue: the so-called "Fiscal Cliff" or "sequestration" that will result in spending cuts and tax increases if no action is taken. Many political analysts and economists have suggested that the issue of the fiscal cliff will dominate the upcoming year in Washington, but what does sequestration mean in terms of actual changes in the lives of most Americans? This hub will attempt to explain both what sequestration is, and what its impact could be for Americans since Congress has been unable to deal with the issue over the last few months.

What is Sequestration Exactly?

Sequestration is a term given to a sequence of policy changes that occurred in the spring of 2013. In total, these changes will result in approximately $1.2 trillion on federal spending cuts over the 10 years, half of which will come from the budget of the Department of Defense, and half of which will come from other federal programs. Additionally, the changes will result in tax increases for many Americans, most notably because of the expiration of the tax cuts passed by President Bush in 2002 (and extended by President Obama as a stimulus measure in 2010). Additionally, sequestration contains other minor provisions, including the expiration of the 2% social security payroll tax cut every American received in 2010 and the expiration of extended unemployment benefits passed through bills related to the economic crisis of 2008-2010.

What does Sequestration Mean for Me?

As sequestration is ongoing, many economists and budget experts are debating the impact of the spending cuts on the economy. In early 2013, before sequestration took effect, the Congressional Budget Office estimates that U.S. economic growth would be -0.5% in 2013 as opposed to 1.7% if all of the sequestration related measures went through. Other economists have estimated a smaller hit to GDP of around 0.5-1.5% due to sequestration (meaning that economic growth will be approximately 0.5-1.5% lower than it otherwise would have been). A big caveat with all of these forecasts is that economic projections are notoriously unreliable: as an example, few economists saw the 2008-2010 crisis coming before the country was in the middle of it.

In terms of specific changes, the most notable change that has already occurred is the expiration of some of the Bush tax cuts. Marginal tax rates will increase, will those making more than $400,000 a year going from 35% to 39.6%, and corresponding increases for all Americans, including those in low earning brackets. Additionally, the tax rate for long term capital gains and dividends (derived from investing in stocks) will increase from 15% to 20%. President Obama has proposed a compromise whereby the tax cuts will be extended for individuals making less than $200,000 a year and families making less than $250,000 a year. However, this will require Congress to pass a bill amending the current laws, and Republicans in the House are currently refusing to vote for any legislation that increases taxes for any Americans.

In terms of the spending cuts, reductions in military spending will probably be unnoticeable for the most part, as the cuts amount to slightly less than 10% of current discretionary spending on the military. If you work for a military contractor your job could be at risk, as most of the spending cuts will be felt in reduced purchases of new material and weapons, but most people should see limited impacts from the reduction in spending. Conversely, the cuts in non-military spending could impact poor and middle-class Americans depending on which programs are targeted. Currently, cuts will be made to all federal agencies in an across the board fashion, it will be up to the Departments themselves to decide which programs may see reduced funding as a result of the spending cuts.

The Ongoing Impacts

Sequestration began to take effect on March 1, 2013, and is currently resulting in a reduction in spending by many government agencies. Specific examples of programs that have been cut include air traffic controllers (funded by the FAA), housing assistance for poor families (funded by HUD), funding for Head Start early childhood education programs (funded by the U.S. Department of Education), and many others. Congress seems to have accepted sequestration as a given for the time being as instead turning its attention to the longstanding Federal Budget Deficit, which though related to sequestration, is a long-term problem that will require changes to federal spending, programs, and tax policies.


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    • carol7777 profile image

      carol stanley 5 years ago from Arizona

      You did a great job in explaining this somewhat confusing situation. I learned a lot and you explained well. And of course what happens remains to be seen. Thanks for this and voting up.

    • Two Minute Review profile image

      Two Minute Review 5 years ago from Pennsylvania, United States

      I suspect that the country plunges off the "fiscal cliff". Doing so will give Obama many things that he wants: higher tax rates on the rich, higher tax rates on investment income, and deep cuts to defense. After the pain begins to be felt, then Obama can be the one to "rescue" the country with a basket of reforms. He can do all this while blaming the GOP for our predicament, even though the fiscal cliff was brought about by the "Super Committee", which was his idea in the first place...

    • Freeway Flyer profile image

      Paul Swendson 5 years ago

      We are only facing this "fiscal cliff" because the Congress has created it. They could vote right now to just maintain the status quo for another year or more, and I would not be surprised if they do so. Hopefully, this will lead to meaningful reforms in the tax code and with entitlement programs that need to be made to get the fiscal house in order over the long-term. Just kicking the can down the road can not continue forever, and these repeating "crises" involving debt ceilings and fiscal cliffs make it hard for businesses to do any long-term planning.

      So what do you think should be done?