The financial world’s attention has been focused on Europe and its fiscal woes of late, but TD Economics stresses that the U.S. fiscal and political situation also remains a concern.
In a new report, TD says that while the ongoing European crisis is the number one risk for the global economy and financial markets, the U.S. also remains in the grips of extreme political gridlock. It points out that Congress has been unable, or unwilling, to pass a budget this year. It also had trouble raising the statutory debt ceiling and suffered a credit rating downgrade by Standard & Poor’s. And, as a result, it has tasked the Joint Select Committee on Deficit Reduction to find necessary fiscal savings by November 23.
“Now, a rational approach to fiscal adjustment would be to back-end load the fiscal pain,” it says. However, it warns the actual process may lead to cuts that risk stalling recovery. Moreover, previous fiscal stimulus is scheduled to expire over the next couple of years.
“In the worst case scenario, government paralysis would lop a whopping three percentage points off economic growth, which would set the stage for a renewed recession,” TD warns. “We don’t expect this to happen, but it highlights the fiscal risk that is present.”
“The U.S. government provided enormous stimulus to the economy to temper the impact of consumer deleveraging in the wake of the credit bubble bursting. At some point, fiscal restraint will have to happen. However, it should happen gradually and primarily when private sector demand is strong: and, that is not likely in the next two years,” TD concludes. “If the current gridlock is not overcome, the fiscal drag in 2013 will be enormous… So, keep one eye on Europe; but, keep the other eye on how political developments unfold in Washington.”