As Economic Recovery Sags, Would a Federal Budget Deal Hurt or Help?

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Vice President Biden and congressional negotiators met again Wednesday to try to reach a deal on the budget deficit and US debt. As the economic recovery falters, how not to imperil it is a top consideration.

Americans be warned: The debate in Washington over the federal budget and the US debt ceiling has major implications that go beyond just the scale and shape of government. It could also affect the prosperity of the wider economy, especially in terms of jobs and income growth, for years to come.

A budget deal that works well could help put a fragile economic recovery back on track, while also starting to steer the nation onto firmer footing for long-term growth. Failure to make fiscal progress, by contrast, could prolong current weakness and increase the risk of a debt crisis.

Those are the stakes as talks led by Vice President Joe Biden continue Wednesday. Republicans and Democrats have agreed to meet more frequently amid signs that US job growth has slowed.

WATCH: CBO DIRECTOR: US BUDGET PROBLEM FUNDAMENTALLY DIFFERENT THAN IN PAST

The two sides are also aware that stock and bond markets could falter if no deal is on the horizon soon. The Treasury Department has said that without an agreement to allow new borrowing, it will run into trouble paying government bills starting around Aug. 2.

The difficulties in budget talks are partly about each side maneuvering for political high ground.

Republicans say it's irresponsible to allow more Treasury borrowing without enacting a deficit-reduction plan that includes sharp cuts in federal spending. Democrats say path to long-term fiscal health should include a mix of spending cuts and tax revenue, including higher taxes paid by the rich.

But beyond those positions, the debate is also about thorny economic issues.

Most prominent is this question: Will the private-sector engines of job creation be helped or hurt if the federal government starts reducing its role as a big spender? Economists have lined up on both sides of this debate.

Critics of Republican spending-cut proposals say the move could be damaging and is unnecessary, while supporters say it will succeed at reviving investor and consumer confidence where wrongly named "stimulus" programs have been failing.

Some economists warn against going to either extreme. "It's definitely a delicate balancing act," says John Silvia, chief economist at the banking firm Wells Fargo in Charlotte, N.C. "You want to show [that] we really are going to get our fiscal house in order," he says, while also being careful not to pull too much activity out of the economy too quickly.

In his view, there's room for a middle-ground fix that will meet both objectives: Some substantial spending cuts could begin in the next budget year without damaging economic growth.

But the economic outlook has darkened in recent weeks, raising the stakes in this debate. Among the sobering signs:

- The pace of US growth has been slower than expected during the year's first half - near a 2 percent annual pace, adjusted for inflation. That's not fast enough to bring down unemployment. In May, the official unemployment rate ticked up to 9.1 percent.

- The global economy has also lost momentum, with emerging nations like China and India struggling to tamp down inflation pressures. In addition, Japan has slowed since the March earthquake and tsunami, and Europe is struggling to contain concerns about whether nations like Greece will be able to finance their public- sector debts.

- The credit rating firm Moody's joined Standard & Poor's in issuing a warning that the United States needs to get its fiscal act together, or risk a downgrade of its public debt rating. A downgrade, while not considered imminent, would push up the cost of borrowing throughout the US economy.

An underlying problem is that economic recoveries following a financial crisis tend to be slower than typical rebounds from recession. …