Political infighting over the “fiscal cliff” threatens to wipe out the US’s fragile recovery with “very bad” consequences for the rest of the world, a senior International Monetary Fund economist warned Thursday.
Updating its annual report on the US economy, the IMF said the recovery remained “tepid”, and risks to that recovery had intensified, “including from the worsening of the euro area debt crisis as well as the uncertainty over domestic fiscal plans.”
The IMF is particularly concerned about falling off the fiscal cliff. Unless a deal is struck by 31 December, Bush-era tax breaks will be dropped and a series of draconian spending cuts imposed. The tax rises and cuts to areas including defense could wipe 3.9% off the US’s growth rate next year, according to the congressional budget office.
In a conference call Gian Maria Milesi-Ferretti, who heads the IMF’s US team, said arguments over the so-called “fiscal cliff” had the potential to wipe out growth in the US next year and push the country back into recession. “That would be a very bad outcome for the US economy and the rest of the world,” he said.
The IMF is predicting 2.25% growth in US gross domestic product next year. “If you go from two and quarters to zero or negative, that’s a sizeable shock,” said Milesi-Ferretti. The fiscal cliff “can be avoided and it should be avoided,” he said.
The IMF published its annual checkup of the US economy, known as the Article IV consultation, last month. The latest update comes after it has been assessed by member countries including China and the UK and follows a set of dispiriting reports on jobs growth and manufacturing in the US.
On Wednesday the US Federal Reserve said it had noted further weakening in the US and was prepared to act but stopped short of doing so. The move disappointed US investors and led to a selloff in US markets.
The IMF’s directors said the Fed had room to further ease monetary policy but a number of directors noted “the effectiveness of additional monetary easing could be limited in the prevailing very low interest rate environment.”
Europe’s woes would continue to weigh on the US recovery, said Milesi-Ferretti, slowing exports and strengthening the dollar to levels that make US goods less attractive.
Milesi-Ferretti sounded an optimistic note for the medium term and said rising demand for housing would eventually lead to a recovery in the US housing market.
The US is now building around 700,000 new homes a year and will need to build 1.5m a year in the near future, he said. But he estimated recovery could take three to five years.