1. This note reports on information that has become available since the staff report (SM/11/167) was issued and does not alter the thrust of the staff appraisal.
2. Incoming data since the completion of the Article IV consultation in mid-June point to downside risks to the staff’s near term forecast. Recent data indicate a marked slowdown in the growth of employment, aggregate labor income, and consumption, and weaker consumer confidence. All told, activity has been weaker than expected, with GDP growth in the second quarter of 2011 tracking between 1.5 and 2 percent at an annualized rate, below the staffs WEO projection of 2.6 percent. Twelve month core consumer price inflation increased to 1.6 percent in June, slightly above expected, while headline consumer price inflation was around 3.5 percent.
3. Negotiations over the federal debt ceiling are ongoing. Both the Democratic and Republican leaders have committed to lifting the ceiling before the August 2 deadline, but a basic political agreement on the underlying fiscal consolidation framework is still lacking. Moody’s placed the U.S. sovereign credit rating on a review for downgrade last week, citing concerns about possible technical default. Standard and Poor’s has indicated a more than 50 percent likelihood of downgrade over the next three months given the lack of consensus on the medium-term fiscal consolidation framework. The market reaction has been muted so far, with the 10-year Treasury yield trading below 3 percent and the CDS spreads remaining broadly stable. Adverse market dynamics cannot be ruled out, however, as policymakers approach the debt ceiling deadline without basic contours of an agreement. Failing to raise the debt ceiling on time would have disastrous consequences for the U.S. and global economy.