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IMF Sees U.S. Risks Tilted to the Downside

Posted by Larry Doyle on July 31, 2009 11:38 AM |

The 2nd quarter GDP report this morning is surprisingly strong at a better than expected -1%. Are we supposed to disregard the significant downward revision (-5.5% to -6.4%) for 1st quarter GDP? Can we go somewhere to get an unbiased macro view of the U.S. economy?

It just so happens the International Monetary Fund released a review of our domestic economy this morning. This report, United States: 2009 Article IV Consultation, provides a rather sobering outlook as we continue navigating our economic landscape.

What do we learn?

>>financial strains are still elevated and the outlook remains for only a gradual recovery, with risks still tilted to the downside.

>>Policies under the Financial Stability Plan, notably the SCAP stress test, debt guarantees, and capital injections, have contributed to a significant improvement in financial conditions. However, risks persist, notably the risk that a prolonged recession could further erode capital. This situation warrants continued close monitoring and regular stress tests to evaluate vulnerabilities. The proposed reserve for stabilization funds should be retained, with the resolution framework for systemic nonbanks expeditiously implemented to improve the predictability and flexibility of crisis management. Balance-sheet cleaning remains a priority; the PPIP will provide a tool, although its usage may be limited. Recent steps to facilitate mortgage modifications are welcome, but more steps may be needed to encourage writedowns of underwater mortgages.

>>Monetary policy should remain highly accommodative until recovery is clearly underway. If downside risks materialize, additional credit easing and a strengthened commitment to maintaining a highly accommodative stance could be deployed. Additional fiscal stimulus could also be used, provided it were set within a credible medium-term fiscal framework.

>>For the Fed, a diverse set of tools will be needed to afford maximum flexibility in light of uncertainties about how market conditions will evolve and about the extent to which particular instruments can be used. In addition, Maiden Lane facilities should be transferred to the Treasury at an early stage, to reduce the Fed’s exposure to credit risk. On support to financial institutions, terms should be tightened on facilities that need to be extended, to avoid distortions, fiscal risks, and governance issues. Clear communication of the strategy would bolster market confidence, and international coordination will be warranted as well.

Recall that Maiden Lane was a facility used by the Fed to house Bear Stearns assets in the process of JP Morgan’s takeover of that firm. Sounds like the IMF has some concerns!

>>Restarting private securitization will be critical to restoring healthy credit flow. While implementation will take time, the faster reforms can be pursued, the lower the risk of impeding credit supply once economic activity (and credit demand) revive in earnest.

>>With public debt set to rise substantially over coming years, it will be critical to secure medium-term fiscal sustainability. Given the low level of discretionary spending, measures would most likely need to include increased revenues. Options could include tax-base broadening, a federal consumption tax, higher energy taxes, and improved compliance.

Sense on Cents concurs and believes it highly likely “The Taxman Cometh.”

>>the Buy American provision of the stimulus package is regrettable, as it harms expenditure efficiency, and adds to protectionist pressures in partner countries.

Without bias or predilection, I view the economic landscape as laid out by the IMF as being a long and winding road filled with assorted hills and valleys.

Sense on Cents recommends, “pack light!”


Related Commentary

GDP Projections from IMF, CBO, OMB
July 8, 2009

  • Larry –

    Two things about the GDP report that I found interesting (in addition to the significant 1st quarter downward revision), was 1) Federal Spending was up 11% and 2) Consumer spending was far worse than expected as it dropped 1.2%. Maybe government spending is going to ultimately replace the drop in consumer spending? That really changes our whole economy.

    I also don’t understand how economists can say that inventories being at very low levels is by itself automatically going to generate consumer demand and get companies to produce more inventory. Just because inventories are low doesn’t mean that consumers are going to start spending more. That’s just hope and optimism in my opinion.


    • Larry Doyle


      The reason why I call this the Uncle Sam economy is because that big fella has such an enormous presence across the entire spectrum.

      I am with you as well on the inventory front. If people want to believe that the economy going forward will have the same demand as in the past, then great, inventories may be rebuilt and add to future GDP, but with the consumer representing 70% of GDP and continuing to pay down debt, I’m not expecting an inventory rebuild anytime soon.

  • coe

    I think the IMF view is a thoughtful one, LD…John Lipsky, the IMF’s First Deputy Director served a long and distinguished career at both Salomon Brothers and at JPMorgan Chase and in so doing, has both the academic and practical capital markets context to really help get our arms around the macro and micro-economic issues…I happen to remain reluctantly bearish on the unemployment rate, and wary of any expectations of a vibrant recovery in consumer confidence at all…it’s hard to presume the government will get the PPIP program right, and it’s even more difficult to foresee a scenario where the banks will acknowledge the “underwater”-ness of their legacy balance sheets anytime soon (think consumer/commercial/and even residential exposures still booked at above market rates). It also strikes me that the Fed has pretty much assured one and all that they will refill the liquidity punch bowl for the foreseeable future (“party on Garth… party on, Wayne)…in essence shifting the “subsidy” cost to the next generation or two or three – and we will immediately start to pay the freight via much higher and broader-based taxes… when you toss into the mix the cost of the plethora of Obama-driven reengineering directives (eg – the health plan/the cap & trade initiative et al) – and let’s not forget the wars we are waging, it’s all a bit overwhelming…perhaps your “sobering” description needs to lead to more alcohol to deaden the impending pain – oh, I forgot, the tax man is upping the ante in this corner of the market as well…maybe there’s a few bottles of beer left at the White House to go around!!!

    • Larry Doyle

      Thanks for bringing Mr. Lipsky into the equation. In my opinion, John is a pro’s pro.

      In regard to the punch bowl, I concur. In fact with the breeze coming over the starboard side this morning, perhaps I should go fill my tumbler!!

      In all seriousness, not that the IMF itself has not had its own sets of issues over the years but I like the IMF perspective if for no other reason than I view it as unbiased.

      Party on!!!

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