* Fiscal tightening would hit U.S., world economy hard
* Deadlock dims hopes for housing-led recovery
* Abe cabinet to take office pledging to reflate Japan
LONDON, Dec 23 (Reuters) - The wheels could come off the
U.S. economy even before it has shifted out of second gear
unless politicians reach a last-minute deal to avoid $600
billion in tax rises and spending cuts that kick in next month.
The rest of the world would be unable to avoid the pile-up
if America does fly off the so-called fiscal cliff.
That is why, even in a holiday-shortened week, eyes will be
peeled for signs that Democratic President Barack Obama and his
divided Republican opponents can bury the hatchet.
The White House on Friday tried to rescue the stalled talks,
but there was little headway to resolve what Alan Blinder, an
economics professor at Princeton University, called the biggest
near-term risk facing the global economy.
Seen from abroad, U.S. policymakers were looking "clownish",
the former vice-chairman of the Federal Reserve said: "This will
do us a tremendous amount of damage."
Until last Thursday, markets had assumed a compromise would
be struck, averting the risk of a relapse into recession. The
slow-motion car crash had been so well signaled that surely the
drivers would swerve in time?
But after Republicans abandoned a fix proposed by House of
Representatives Speaker John Boehner, businesses and households
head into the year-end knowing the clarity they crave on tax and
spending plans could be weeks away.
"The longer uncertainty persists, the greater the negative
impact on the economy," Lewis Alexander, chief U.S. economist at
Nomura, told clients.
"It may take the imminent threat of a breach of the debt
limit in February, or March at the latest, to force an
agreement," he added, referring to the Congressional approval
that the Treasury will need to extend its borrowing authority.
THE CRASH HEARD AROUND THE WORLD
By sapping consumer confidence, the political brinkmanship
could already be enough to sap short-term U.S. growth.
If America then does tumble over the cliff for more than a
few days, triggering fiscal tightening that could reach 4
percent of GDP, the repercussions would be felt around the world
via trade and financial links.
"If our economy goes into a recession, especially a serious
recession, a deep recession, that's going to hit imports from
the rest of the world. And to the extent that it messes up
financial markets, that has a contagion effect," said Martin
Feldstein, an economics professor at Harvard University.
Like Blinder, he was speaking on a conference call organised
by Foreign Affairs magazine.
Indeed, the resulting turbulence in financial markets could
end the period of relative calm enjoyed by the euro zone, said
Christian Schulz, an economist at Berenberg Bank in London.
Failure to put the U.S. budget on a more sustainable path
could well crush hopes that the world's largest economy is
finally shaking off the effects of the financial crisis and
returning to a path of steadier if not spectacular growth.
Credit Suisse on Friday raised its forecast for
fourth-quarter gross domestic product growth to an annualised
pace of 1.8 percent from 1.1 percent after consumer spending in
November rose at the briskest rate in three years.
HOUSING RECOVERY
A recovery in housing is an increasingly important motor of
growth, and figures on Thursday are expected to show new home
sales rose to 380,000 in November from 368,000 in October,
according to economists polled by Reuters.
Two of the top trading recommendations for 2013 by
economists at Goldman Sachs are premised on a deepening housing
market recovery. Existing homes changed hands in November at the
quickest pace in three years, while confidence among U.S. home
builders rose to a 6-1/2-year high in December.
Edward Jamieson, chief investment officer in Franklin
Templeton's equity group, said housing was benefiting from
record-low interest rates, a gradual reduction in household debt
and significant pent-up demand.
"Higher home prices have also helped reduce the number of
individuals with negative equity in their homes while also
providing a strong wealth effect, which we think bodes well for
continued improvement in the housing sector," he said in a
report.
That markets in the last days of 2012 should be held hostage
to events in Washington is fitting in one sense: this has been a
year in which politics has shaped economic developments more
than ever.
In the euro zone, a commitment by paymaster Germany to keep
bailing out backsliding Greece, building on a pledge by European
Central Bank President Mario Draghi to do whatever it takes to
preserve the euro, largely allayed market doubts about the
imminent disintegration of the single currency.
In Japan, Prime Minister-elect Shinzo Abe, whose cabinet
will be sworn in on Wednesday, campaigned on a platform of more
aggressive monetary and fiscal policy to jolt the economy out of
two decades of anaemic growth and gently falling prices.
The yen has weakened and Japanese stocks have risen in
response even though many are sceptical that Abe will introduce
the reforms Japan needs.
The Bank of Japan, sensing which way the political winds are
blowing, duly relaxed policy last week, and inflation figures on
Friday are likely to reinforce expectations that there is more
to come from the central bank.
Economists polled by Reuters expect core prices to have
fallen by 0.1 percent nationwide in the year to November and by
0.5 percent in Tokyo in the year to December.
"We expect quantitative easing to continue aggressively in
the first half of 2013, especially after a new governor takes
the helm from the April 26 monetary policy meeting," Izumi
Devalier, an economist with HSBC, wrote in a report.