CBO Warns Again: 'Fiscal Cliff' Could Lead To Recession, Higher Jobless Rate

“With Congress still split, President Obama will struggle to garner bipartisan support for a more comprehensive agreement that addresses the longer-term issue of how to put the nation’s finances back on a sustainable path,” Paul Ashworth and Paul Dales of Capital Economics wrote in a note.

If Congress fails to avert the so-called fiscal cliff of more than $600 billion in tax hikes and spending cuts due to be implemented under existing law at New Year's, the U.S. gross domestic product could shrink by 0.5 percent next year, the CBO’s analysis showed. But the agency added that the economy would in the longer run return to better growth rates and jobless rates would fall to 5.5 percent by 2018.

The new study estimates that the nation’s GDP would grow by 2.2 percent in 2013 if the Bush-era tax rates were extended and would expand by almost 3 percent if President Barack Obama’s payroll tax cut and jobless benefits for the long-term unemployed are extended.

The 2012 election returned a divided government to Washington. “The two parties still remain too far apart in terms of their approaches to the problem with one side emphasizing spending cuts and the other side demanding a more ‘balanced’ approach that includes sizable revenue increases,” said Kevin Logan, the chief U.S. economist for HSBC, in a note.

All tax and spending legislation begins in the House, and the Republican majority has insisted for the past year that only spending cuts and not increases in tax revenues be used to lower the federal budget deficit. This is contrary to the approach favored by the Democrats, who have insisted on a mix of tax increases and spending cuts to rein in the deficits, Logan added.

“Hopes for a ‘grand bargain’ on tax hikes and spending cuts are unlikely to be realized in the short term,” Logan said. “Instead, we expect uncertainty and delay, with decisions on longer-term solutions for the federal budget deficit taking place only later in 2013.”

The current Congress will likely meet in a lame-duck session, perhaps as early as Nov. 13, though serious work will not begin until Nov. 26, following the Thanksgiving Day holiday.

Most analysts expect a lame-duck Congress to come up with a “kick-the-can-down-the-road kind of resolution" and delay the fiscal cliff for three to six months in hopes that a fiscal reform package can be passed in 2013.

The major credit rating agencies, Moody’s and Standard & Poor’s, have both indicated that they are likely to lower the U.S. sovereign credit rating in the year ahead if they do not see substantial progress on deficit reduction.

Standard & Poor’s earlier Thursday said there is a 15 percent chance that the U.S. will go over the cliff.

Also on Thursday, the International Monetary Fund urged the U.S. to quickly reach an agreement on a permanent fix to avoid jumping off the cliff.

In a report prepared for the Group of 20 finance ministers' meeting in Mexico last weekend and published Thursday, the IMF warned that “a last-minute deal that relies on suboptimal fixes or largely 'kicks the can down the road' may ultimately prove harmful."