The World Bank issued its latest forecast for U.S. and global growth. Expectations were lowered from the previous report issued in June 2012. Back then, the World Bank expected real global growth of 3.0% in 2013 and 2.4% in the U.S. Now, the World Bank only expects global GDP to increase by 2.4% and the U.S. economy to expand by 1.9%.
These growth rates, especially for the U.S., compare unfavorably with other forecasts. Most notably, the Livingston Survey of economists' expectations -- issued biannually by the Philadelphia Fed since 1946 -- shows a consensus forecast of 2.5% growth in the U.S. in 2013.
Our view has not changed much since we last produced our economic forecast in November. We are much more pessimistic about the economy in 2013 and only expect GDP growth in the neighborhood of 1.0% - 1.2%.
The key behind the differing forecast is the effect of the austerity measures from the fiscal cliff deal and the sequestration. The increase in taxes agreed to in the fiscal cliff deal already reduced income levels by 1.2% of GDP. The sequestration, as the law is currently written, will reduce GDP by another 0.7%.
To put that into perspective, if the economy grows at the same rate as it did in 2012 in 2013, the effects of austerity would reduce 2013 GDP growth to only 0.1%.
In fact, the U.S. economy would need to grow at a rate of 4.0% in order to offset the austerity and produce the supposedly pessimistic World Bank forecast of 1.9%.
Even if the sequestration is somewhat reduced in a Congressional compromise, the overall effect of the austerity measures on 2013 GDP is still enormous. Using the CBO's fiscal compromise as the sequestration baseline, the austerity measures would cause GDP to increase only 1.0% if the economy grew at the same pace it did in 2012. To meet the World Bank's forecast, GDP would need to increase by 3.0%.
The above projections assume that consumption levels fall by the entire amount of the tax increase. If growth rates remained at 2012 levels, and consumer spending fell by only 20% of the tax increase while the sequestration is reduced, GDP would increase by 1.3% -- which is still slightly higher than our forecast. GDP would need to increase by 2.5% to meet World Bank estimates.
Given that many consumers and businesses are still constrained by high debt loads and the inability to raise credit, economic growth of at least 2.5% seems improbable.