The U.S. economy continues to recover at a modest pace, in line with international experience following severe financial crises. The key priority for fiscal policy is to stabilize the debt ratio and gradually reduce it. The fiscal framework should include an endorsement of the main medium-term fiscal objectives. Executive Directors recommend policy efforts to ease the adjustment of the housing and labor markets. Strengthening the domestic and international crisis-prevention architecture for financial institutions should be a priority. A multilateral approach to economic policy management is critical.

Abstract

The U.S. economy continues to recover at a modest pace, in line with international experience following severe financial crises. The key priority for fiscal policy is to stabilize the debt ratio and gradually reduce it. The fiscal framework should include an endorsement of the main medium-term fiscal objectives. Executive Directors recommend policy efforts to ease the adjustment of the housing and labor markets. Strengthening the domestic and international crisis-prevention architecture for financial institutions should be a priority. A multilateral approach to economic policy management is critical.

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.

United States: Staff Report for the 2011 Article IV Consultation
Author: International Monetary Fund