U.S. economy recovering, but recession looms in 2013 if it falls over the "fiscal cliff"

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OTTAWA, Oct. 19, 2012 /CNW/ - The U.S. economy is recovering, but it is still struggling with the weakest recovery since the Second World War. And the situation could get much worse if the United States falls over the looming "fiscal cliff", thereby snuffing out growth in both the U.S. and Canada.

The Conference Board of Canada's U.S. Outlook-Autumn 2012 forecasts real gross domestic product to grow by a tepid 2.3 per cent this year and by 2.4 per cent next year. But this outlook assumes that Congress and the White House will reach an agreement to avoid automatic spending cuts and tax increases scheduled to kick in early in 2013.

"The U.S. economy will take a major step toward, finally breaking free from the clutches of the 2008-09 recession, but only if the United States Congress and Administration manage to make some headway in solving the nation's daunting fiscal challenges," said Kip Beckman, Principal Economist. "Concerns about how Congress will deal with the rapidly approaching fiscal cliff are having a strong negative effect on both consumer and business confidence."

The "fiscal cliff" refers to the combination of tax increases and spending cuts totaling more than $700 billion - five per cent of the U.S. economy - that are set to take effect automatically in January if other deliberate fiscal policy action is not taken.

Congress and the White House have several options as the deadline approaches, but the default option is to do nothing and allow the tax increases and spending cuts to take effect next year. While the federal balance sheet would improve immediately, it would come at a huge price - the United States would fall back into recession in the middle of 2013. With the unemployment rate near eight per cent, the economy is simply too fragile right now to handle sharp tax increases and cuts in government spending.

The second option would be to extend the current tax and spending policies into 2013. Maintaining the fiscal status quo would have a positive short-term positive effect on U.S. growth, but it would also likely lead to a U.S. credit rating downgrade. Ongoing trillion dollar annual deficits would hurt the economy over the longer term.

A final option, the one on which this outlook is based, would be to reach agreement between the Congress and the White House that allows the federal government to gain some control over its long-term finances and enables the economy to continue its modest growth into the medium term.

Not all the news about the U.S. economy is gloomy. Most firms are in excellent financial shape, banks are well-capitalized and have resumed lending, and households have made a huge dent in their debt burdens. The troubled housing market is also showing signs of life - home prices and housing starts have started to rebound in many parts of the country.

SOURCE: CONFERENCE BOARD OF CANADA

Link: http://www.conferenceboard.ca/e-library/abstract.aspx?did=5146

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