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Analysis: Even brief spending cuts could hit U.S. economy hard

The U.S. Capitol building is seen as the sun begins to set under heavy cloud cover in Washington November 20, 2008. REUTERS/Jim Bourg
The U.S. Capitol building is seen as the sun begins to set under heavy cloud cover in Washington November 20, 2008. REUTERS/Jim Bourg

By Jason Lange

WASHINGTON (Reuters) - The U.S. economy could take a big hit from automatic government spending cuts even if Congress only leaves them in place for a month or two.

The cuts were meant to be so painful that they would force Congress to find a more thoughtful way to tighten the budget.

But many analysts assume they will take effect as scheduled, forcing federal offices to furlough some of their 2.8 million workers and trim spending on everything from paper clips to missiles.

It is anyone's guess, however, how long lawmakers will be able to stomach the economic pain. The duration of the austerity measures will determine the force of the blow to the economy. Some analysts think having the cuts in place for more than a few months could trigger a brief recession.

The Congressional Budget Office said on Tuesday the cuts would translate into $42 billion less in federal spending between the beginning of March and the end of September.

If $6 billion in spending is cut in March - which would be the average decline over a seven-month period - economic growth would be stunted by roughly seven-tenths of a percent in the first quarter, said Omair Sharif, an economist at RBS in Stamford, Connecticut.

"You are going to feel the pain right away," Sharif said.

Expectations for growth during the first quarter are already lackluster. Analysts polled by Reuters last month said they expected the economy to grow at a 1.5 percent annual rate in the first quarter, though some have since raised forecasts.

If the cuts continued into the second quarter, the austerity could erase almost all the growth expected during that period, Sharif said. After the second quarter, the impact would lessen.

Sharif's calculation only takes into account the direct effect on growth from spending cuts. The loss of income at government contractors and among furloughed employees would also hurt the economy throughout the year by reducing consumer spending and business investment.

Pentagon officials have said up to 800,000 of the military's civilian employees would work one less day a week because of the cuts.

The Air Force said it would have to curtail orders for Lockheed Martin Corp's F-35 fighter jet and delay a new version of the MQ-9 Reaper drone being built by privately held General Atomics.

Congress has been scrambling to find a way to postpone the budget cuts, but has shown little sign of progress.

In its report this week, the CBO projected that the economy would grow 1.4 percent this year if the austerity measures kick in. At that pace, the jobless rate would average 8 percent in the fourth quarter, just above the 7.9 percent reading from January.

Most Wall Street banks expect the cuts, known as the "sequester" in Washington parlance, to take effect at least briefly.

Kevin Logan, chief U.S. economist at HSBC in New York, does not. He acknowledges there is a good chance he is wrong and says the cuts could push the United States into a brief recession.

"The full implementation of the sequester over a short period of time could very well be the trigger," he said.

(Reporting by Jason Lange; Editing by Tim Ahmann and Stacey Joyce)

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