It looks as though no matter what happens in the debt ceiling fight, some seirous “fiscal consolidation” is coming up.
The bad news is that we’ve already been doing this, and it’s hurting growth.
Goldman’s Jan Hatzius describes what it did in the first half:
Some of the weakness in the economy this year is clearly due to the shocks from the Japanese earthquake and the sharp increase in oil prices, and some is probably due to an even lengthier period of downward pressure on aggregate demand from the bursting of the housing and credit bubble. But a review of the spending and tax data at the federal, state, and local level suggests that a significant part is also due to fiscal adjustment. This has been particularly true on the spending side, where the first quarter of 2011 showed the largest negative impact of government spending on real GDP growth since the mid-1980s…
This weakness has been evident both at the federal level and among state and local governments. On the federal side, a contraction in defence spending subtracted 0.7 percentage point from growth in the first quarter. Our Aerospace & defence analyst, Noah Poponak, has a Cautious coverage view on defence stocks and believes that spending is under structural downward pressure. Although monthly Treasury outlay data suggest that overall defence spending may have bounced back somewhat in the second quarter, the chart below shows that military procurement, R&D, and military construction–the most “discretionary” parts of defence spending–show a clear downward trend in 2011 so far on a seasonally adjusted basis (based on our own seasonal adjustment).
On the state and local side, contraction in investment spending subtracted another 0.5 percentage point from real GDP growth in the first quarter. Moreover, in this case there is no sign of improvement in the second quarter. As shown in the chart below, the monthly data show steady contraction in both employment and construction in the state and local employment government sector. Thus, another significant negative impulse to GDP growth in the second quarter from state and local spending seems likely.