GOP spending cuts would hit economy hard

By Jeanne Sahadi, senior writer


NEW YORK (CNNMoney) -- The more federal spending Congress slashes this year, the greater the potential drag on economic growth, according to a new analysis from Goldman Sachs.

In a research note, economists at the Wall Street bank estimate that the House GOP's spending bill -- which would cut $61 billion between March and Sept. 30 -- could reduce economic growth by 1.5 percentage points to 2 percentage points in the second and third quarters.

Last week, the Federal Reserve forecast the economy would grow between 3.4% and 3.9% this year.

The drag would be less if lawmakers decide to cut only $25 billion, which Goldman believes is more likely.

Goldman estimates a 1 percentage point drop in growth in the second quarter but adds that "would quickly fade over the next two quarters as spending stabilizes at a lower level." And by year-end, a $25 billion reduction would have "little effect ... on the rate of real GDP growth," Goldman economists concluded.

If lawmakers do come to agreement on a spending bill in the coming weeks, it's more likely that they will pass fewer cuts than the House-passed Republican bill because the president has already threatened to veto it and the bill doesn't have the support of the Senate Democratic majority.

House Minority Leader Nancy Pelosi's office was quick to tout the analysis Wednesday as proof that the Republican spending-cut agenda would be harmful. (Correction below)

"Goldman Sachs issued an independent economic analysis which found that the irresponsible Republican 'So Be It' spending bill would reduce U.S. economic growth. ... Democrats remain committed to working with Republicans to reduce the deficit in a responsible way without hampering our economic growth and American jobs."

A spokesman for House Speaker John Boehner, however, dismissed the analysis as wrong-headed. "This is the same outdated Washington mindset that led to claims that the trillion-dollar 'stimulus' would keep unemployment below eight percent. We don't need more ineffective 'stimulus' spending -- we need to get our economy growing again and help the private sector create jobs," he said.

House Budget Chairman Paul Ryan's office did not immediately reply to a request for comment. The original size of cuts Ryan proposed relative to current spending levels was $32 billion. But it got bumped up to $61 billion after the House GOP leadership was pressured by the party's newest and most conservative members to live up to their original pledge to cut $100 billion in their first year.

The Goldman analysis also considered the potential economic effects of a government shutdown, which could occur if the House and Senate don't agree to a spending bill for the rest of the year by March 4, when the current stop-gap funding measure expires.

No more than 40% federal employees are likely to be furloughed, Goldman estimates, noting that should a shutdown occur for more than a few days, it could reduce GDP by 0.2% for every week of the shutdown. (Correction below)

Correction: An earlier version of this article incorrectly attributed the Democratic reaction to the Goldman Sachs report. It also incorrectly cited the number of employees who could be furloughed. To top of page

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