THE INTERNATIONAL Monetary Fund has warned of a “severe shock” to global financial markets if the US does not move quickly to increase its borrowing authority, adding pressure on Congress and the White House to clinch a deal on fiscal policy.
In its annual report on US economic policy, the IMF cited “unfavourable fiscal outcomes” as one of the key dangers to the country’s economic outlook.
“These could take the form of a sudden increase in interest rates and/or a sovereign downgrade if an agreement on consolidation does not materialise or the debt ceiling is not raised soon enough,” the IMF said. It added: “These risks would also have significant global repercussions, given the central role of US Treasury bonds in world financial markets.”
The US Treasury has said that if Congress does not raise the debt limit – currently at $14,300 billion – the US would run out of cash to pay its obligations and could default as early as August 2nd. But Republicans and Democrats in Congress and the White House have so far been unable to break the political impasse surrounding fiscal policy, as they spar over spending levels and taxation. Republicans have been resisting an increase in the debt ceiling to extract deeper spending cuts and fiscal reforms, while opposing any tax increases.
After the IMF statement on the US was released, John Lipsky, acting managing director, said he was “confident that the participants are well aware of the potential risks of a debt default in the US and will avoid those dangers”.
Mr Lipsky added: “It should be self-evident a debt default by the US government . . . would have very serious, far-reaching, dramatic repercussions and that’s why we’re confident that it will be avoided.”
In its report, the IMF said striking the right balance on fiscal policy represented the main challenge facing US economic officials. The fund said fiscal consolidation needed to proceed and losing fiscal credibility could be very damaging. It recommended deficit reduction should begin next year, with the overall effort to include both spending cuts and tax increases through the elimination of special incentives and deductions.
But on the other hand, the IMF cautioned against deep and immediate savings, saying that “an excessively large upfront fiscal adjustment could also significantly weaken domestic demand”. The IMF is expecting the US economy to grow at a rate of 2.5 per cent this year, accelerating to 2.7 per cent in 2012 and 2013.
Among the other risks to the outlook besides fiscal policy, the IMF cited the weak housing market, the potential for a commodity price shock, tight credit supply and Europe’s sovereign debt woes. – Copyright The Financial Times Limited 2011
