REUTERS - The U.S. economy faces even more difficult times ahead with chronic unemployment and slow manufacturing hurting the recovery, the head of Congress' budget agency said on Thursday.
The warning from the non-partisan Congressional Budget Office came on top of more bad economic data that heightened concerns about a return to recession and sent markets roiling. It could also spell trouble for Democrats facing November elections.
The CBO forecast the U.S. budget deficit will hit $1.342 trillion this year, down slightly from its March projection of $1.368 trillion.
It attributed most of the $27 billion change in its fiscal 2010 deficit projection to an estimated $50 billion reduction in the cost of TARP, the U.S. government's bailout of financial institutions in 2009.
But the figures show that without significant changes in U.S. tax and spending laws, the government will struggle to dig its way out of a deep fiscal deficit hole.
Congressional Budget Office Director Douglas Elmendorf painted a picture of a tough recovery from recession, although the CBO predicted a 3 percent economic growth rate this year.
"The considerable number of vacant houses and underused factories and offices will be a continuing drag on residential construction and business investment, and slow income growth as well as lost wealth will restrain consumer spending," he said.
The unemployment rate will not fall to around 5 percent until 2014, Elmendorf said. The last time the jobless rate was 5 percent was April 2008, just as the economy was heading into recession and unemployment was on the rise.
Bad for democrats
Anxiety over the economy is likely to punish President Barack Obama's Democrats at November's midterm elections because of perceptions of big deficits caused by government spending and high unemployment.
Republican Senator Judd Gregg warned of fiscal calamity.
"Today's CBO outlook only underscores what we already know -- the current pace of U.S. spending is unaffordable and unsustainable and without a change in direction this country is headed for fiscal calamity," said Gregg, the senior Republican on the Senate Budget Committee.
As if to illustrate the severity of the economic challenge ahead, the CBO forecast was released as new data dealt another blow to the fragile U.S. economy, driving prices on U.S. government debt higher and yields lower.
The benchmark 10-year Treasury note yield fell to a 17-month low of 2.56 percent this week.
Concerns about the massive deficit, and the U.S. triple-A credit rating, are not expected to lift Treasury debt yields from current low levels any time soon.
"We think bond yields are going lower, mostly on revised growth expectations -- all the shops are revising down their forecasts for inflation and growth," said Sergey Bondarchuk, U.S. interest rate strategist with BNP Paribas in New York.
The budget and economic outlook are designed to give lawmakers the most up-to-date nonpartisan assessment of U.S. economic health and provide the latest projections on deficits that began in 2002 under former President George W. Bush and then skyrocketed in 2009 during recession and stimulus spending under Obama.
The CBO's deficit numbers are slightly lower than recent White House predictions for the fiscal gap, but the two use different measurements.
Members of Congress will rely on the CBO numbers as they decide how to tackle the yawning budget gap.
The CBO projected a 9.5 percent jobless rate for this year, falling only slightly to 9 percent in 2011 and averaging 6.7 percent in 2012-2014, significantly shy of the 4 percent target economists would consider a full employment level.
Last month, the White House said unemployment will decline slowly, to 8.1 percent in 2012, when the U.S. presidential election will be held.
Democrats blame Bush for the budget deficit and say Republicans are blocking efforts in Congress to fight unemployment and help small business.
"Republicans bear much of the responsibility for wiping out the surpluses they inherited in 2001 and creating these deficits," said Thomas Kahn, Democratic staff director of the House of Representatives' Budget Committee.
"And what's their solution now? Almost $4 trillion dollars in new tax cuts largely benefiting the most privileged. That would just dig the deficit hole even deeper," Kahn added, referring to Republican tax cut plans.
An independent, bipartisan commission is studying possible fixes to the budget and economic dilemma but is not due to report to Obama until December.
CBO also forecast a $1.066 trillion deficit for fiscal year 2011, which begins on Oct. 1, up slightly from the March estimate of $996 billion.
The U.S. budget deficit last year was a record $1.413 trillion, 9.9 percent of gross domestic product.