Payroll tax deadlock could hobble economy

Economists worry that growth could slow to 'stall speed' if Congress can't reach deal to extend tax break to most workers.

NEW YORK (CNNMoney) -- If Congress fails to pass an extension of the payroll tax holiday, it would put a serious dent into economic growth in 2012 and could even help tip the U.S. back into a recession, according to economists.

Economists surveyed by CNNMoney on Tuesday said that gross domestic product, the broadest measure of the nation's economic health, could be about 0.4 percentage points lower in the first quarter if Congress doesn't extend the measure which lowered payroll taxes this past year.

The Obama administration and both Democratic and Republican leaders in Congress say they want the tax cut extended, but disagreement on how to pay for the estimated $120 billion annual cost of the full-year extension has led to a deadlock which could prevent another vote before the tax cut ends Dec. 31.

Most of the economists surveyed worry that raising the tax bite on most workers by up to $2,000 will put a crimp in spending in the new year and will be a drag on the economy.

Those most worried say the biggest risk is that it would slow growth to the point where any shock, such as problems caused by the European sovereign debt crisis, could tip the economy back into recession.

"Given that the payroll tax holiday is having a meaningful impact, removing it would mean we're essentially at stall speed for the economy, and we would become quite worried about the expansion," said Sal Guatieri senior economist with BMO Capital Markets.

Other economists worry that the loss of the tax break would have an impact beyond just the loss of spending that the higher taxes would cause.

"The point is that the economy looks to be getting some traction and this is the wrong time to stop pushing," said Robert Brusca of FAO Economics. "The resulting backsliding could easily cost us much, much more growth."

Some of the economists point out that the payroll tax dollars aren't all that's at stake in the congressional deadlock.

An extension of jobless benefits for the long-term unemployed and a change in the alternative minimum tax to lift that tax burden from many middle-income taxpayers could also be lost if the payroll tax measure doesn't advance.

Still some of the economists surveyed believe there will be no decline in GDP even without a payroll tax holiday extension.

"Temporary tax breaks, or tax rebates, do not help the economy," said Brian Wesbury of First Trust Advisors. "The money that is provided in the tax cut must be borrowed from somewhere else. Either way, it is not left in the private sector."