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U.S. must reduce deficit, IMF warns

By Howard Schneider
Washington Post Staff Writer
Friday, January 28, 2011; A16

U.S. officials must act quickly to control government deficits or face slower growth and even more difficult choices in the future, the International Monetary Fund said Thursday in a report criticizing the tepid U.S. response to its rising public debt.

The IMF warning comes as federal officials grapple with a congressional projection this week that the annual deficit will reach a historic $1.5 trillion this year. This was the latest report to raise concerns about how massive government debts in developed countries could undermine the global economic recovery.

"The U.S. has a lot of credibility. This does not imply their credibility can last forever," IMF fiscal affairs director Carlo Cottarelli said as he released the IMF study. It concluded that the United States is falling behind on a promise it made to other top economic countries to halve its budget deficit by 2013.

"This is a problem many years in the making and will take a concerted effort by Democrats and Republicans working together to find a solution," White House press secretary Robert Gibbs said in answer to a question about the IMF report.

He noted that President Obama called for a freeze on discretionary spending during this week's State of the Union address. IMF officials have welcomed the step but said that spending cuts in pension and health entitlement programs are also needed.

The United States wasn't the only economic power criticized by the IMF. Japan has also slipped in its deficit goals, the IMF said.

Underscoring the point, Standard & Poor's on Thursday lowered Japan's bond rating to AA- from AA on concern that the country's politicians won't come to terms with debts that are roughly twice the size of the national economy. Although Japan still has a relatively high rating, the downgrade was a reminder that even a historically strong and creditworthy economy - with a widely used "safe- haven" currency - can come under the type of pressure that in recent months left Greece and Ireland strapped with rising debt costs and needing international bailouts.

The U.S. situation is far less dire. The roughly $14 trillion U.S. economy is by far the world's largest, the dollar remains the favored reserve currency, and U.S. capital markets are large enough to absorb investments from around the world.

But IMF officials said the country's public debt is so outsize - and continuing to grow - that U.S. officials need to "strengthen their credibility." However unlikely, a downgrade in U.S. debt or loss of confidence in the government's ability to repay its creditors could touch off a catastrophic series of events - from a shutdown of global trade finance and credit to the collapse of banks and governments that hold large amounts of U.S. debt and depend on the flow of money through and from the United States to stay afloat.

Not long ago, the United States appeared to be on track to meet the commitment to halve its annual deficit by 2013. At a gathering of the world's top economic leaders in Canada last summer, U.S. officials promised to reduce the deficit to roughly 6 percent of gross domestic product.

But new, less-optimistic forecasts put the country in danger of missing that goal. According to data released this week by the Congressional Budget Office, recent tax cuts and expected spending will keep the annual deficit this year at about 10 percent of GDP.

That is similar to deficits in European countries, such as Spain and Britain, that have come under pressure from international bond markets to curb their spending, raise taxes and restructure their economies. The total amount of outstanding U.S. debt, meanwhile, is expected to equal about 70 percent of the nation's economy by next year. If combined with the amounts owed by states, public debt will top 100 percent of GDP.

European countries have begun a pointed dialogue with their residents about what government can and cannot afford. Moves to cut public salaries, trim services and curb public pensions have touched off strikes and protests - but also put the deficits of those countries on what seems to be a securely downward path, the IMF said.

Those are choices the United States has been hesitant to make, particularly when economists still widely consider government spending to be important in supporting the economic recovery. The debate over deficits, moreover, has tended to steer away from politically sensitive topics such as cutting or restructuring Social Security and Medicare - areas in which the IMF says costs will almost certainly need to be trimmed if the United States is to make progress curbing its debt.

In an analysis of U.S. debt last week, S&P analysts said the unthinkable could occur unless U.S. officials take action.

"The 'AAA' rating on the U.S. government assumes that the government will soon reveal a credible plan to tighten fiscal policy to enable the general government debt-to-GDP ratio to stabilize and then to decline in the medium term," agency analysts wrote. "Absent a credible plan, the rating on the U.S. federal government will come under pressure."

schneiderh@washpost.com

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