Fiscal Cliff 2013: IMF Warns of Global Impact

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Worries over the looming "fiscal cliff" are spreading, and implications of the scheduled tax increases have become a growing global concern.

The fiscal cliff is the coinciding action of tax increases and spending cuts that will activate on Jan. 1, 2013, unless Congress and the White House change or at least delay them.

Everyone has an opinion on the matter, and this week the International Monetary Fund added its two cents.

The IMF issued a fresh report Tuesday warning that failure to avoid the fiscal cliff in 2013 could put the brakes on the U.S. growth rate, pushing it under 1%. Such a slowdown poses great risk to economies worldwide.

The IMF said the global implications for early 2013 are a negative growth rate with "significant negative repercussions on an already fragile world economy."

"It is critical to remove the uncertainty created by the "fiscal cliff" well as promptly raise the debt ceiling, pursing a pace of deficit reduction that does not sap the economic recovery," the IMF said in its annual health check of the U.S. economy.

Under current fiscal cliff terms, the proposed spending cuts and tax increases would minimize the deficit by approximately 4% of GDP in 2013.

Lawmakers should, the IMF counseled, replace the fiscal cliff with a program of small deficit reductions in the short-term with a longer term fiscal sustainability program.

Christine Lagarde, IMF Managing Director, said at a press conference Tuesday that a small deficit reduction means cuts amounting to 1% of GDP next year. The downside risks to the U.S. economy as well as worldwide financial systems have deepened, she noted.

"We believe that fiscal consolidation is necessary but not just any fiscal consolidation. It has to be sensible and certainly not excessive," said Lagarde.


How to Prevent Fiscal Cliff 2013

Lagarde acknowledged that U.S. officials have "limited space to act" with interest rates already near zero, a level enjoyed by borrowers since 2008, and with the mounting necessity to reduce the federal deficit. But she stressed they must use whatever means they have at their disposal.

The obvious move is a third round of quantitative easing. The hint and anticipation of QE3 helped push gold prices up by $23 Tuesday.

Aside from the nation's own ailing fiscal policy, the IMF advised that the U.S. remains susceptible to the ripple effect from the Eurozone debt crisis, and said the Fed does have room for further easing should the outlook worsen. Furthermore, the report said that the fundamentals suggest the dollar is modestly overvalued.

Not welcome words to U.S. financial policy makers.

It is widely expected that Congress will come to some kind of agreement post-Election 2012 to avert the fiscal cliff. In any event, most analysts agree that Congress will at least be afforded some time to work out a long-term solution.

And while the Treasury Department reacted with indifference and publicly shrugged off the IMF report, the uncertain and sketchy outlook is already weighing on business hiring and investment decisions.

Markets closed early Tuesday to get a jump start on the 4th of July and although volume was holiday light, the Dow managed to eke out a nice gain of 72 points. The Dow fell nearly 50 points in the first hour of trading Thursday, ahead of Friday's U.S. jobs numbers.

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