IMF Tells USA to Cut Entitlements and Raise Taxes

Econintersect:  While eyes are focused on Greece, the IMF has laid out reforms it believes is necessary as the global economy is in a dangerous new phase.  The biggest risks to the world economy:

• the PIIGS crisis in the euro area runs beyond the control of policymakers; and,

• activity in the United States, already softening, might suffer further blows — for example, from a political impasse over fiscal consolidation, a weak housing market, rapid increases in household saving rates, or deteriorating financial conditions.

The conclusion of the IMF:

Unless policies are strengthened, especially in advanced economies, nothing beyond a weak and bumpy recovery is in the cards. There are potential major benefits to a stronger, collaborative policy response. As explained in a separate IMF report for the G20 Mutual Assessment Program, adopting growth-friendly medium-term fiscal consolidation programs in advanced economies, policies to re-balance demand in emerging market surplus economies, and structural reforms to boost potential growth everywhere could provide a considerable fillip to global GDP.  Perhaps even more important, together with measures to facilitate balance sheet adjustment by households and banks, such policies would forestall a lost decade of growth in advanced economies, which would be very detrimental for all.  However, achieving this will require that policymakers tackle difficult political economy challenges at home and resuscitate the strong collaborative spirit that prevailed at the height of the crisis.

The specific advice to the USA:

The first priority for the U.S. authorities is to commit to a credible fiscal policy agenda that places public debt on a sustainable track over the medium term, while supporting the near-term recovery. For this, the fiscal consolidation plan should be based on realistic macroeconomic assumptions and should comprise entitlement reform and revenue-raising measures (for example, gradual removal of loopholes and deductions in the tax system and enhanced indirect taxes). This would allow the near-term fiscal policy stance to be more attuned to the cycle, for example, through temporary stimulus to support labor and housing markets, state and local governments, and infrastructure spending. With a less ambitious medium-term fiscal strategy in place, fiscal consolidation would need to be more front-loaded, comprising a withdrawal of 1 to 1½ percent of GDP in 2012, but including at least temporary payroll tax cuts and increased unemployment insurance through 2012 to contain the drag on near-term growth.

The IMF is has a history of limited vision of oncoming crisis.  The forecasts for 2011 have been degrading since first issued in April 2010 when the IMF warned the advance economies that continued government economic support was a concern.   Now we have no real warning to the USA to fix its fiscal house.  In September 2011 the IMF is suggesting more short-term stimulus, with deferred attention to fiscal sustainability.

source: IMF