Obama's tax deal could boost US economy

A TAX deal struck between the Obama administration and Republican lawmakers could lift 2011 growth by as much as a full percentage point by leaving more money in consumers’ pockets.

Economists say the plan should help breath new life into the sluggish recovery, though it will only add to the already bloated budget deficit.

The plan could boost GDP anywhere from a half to a whole percentage point, helping reduce unemployment and lessen the need for the Federal Reserve to increase its monetary stimulus, analysts said.

“In all likelihood, the recovery would have made it through next year without backtracking into recession, but this deal improves those odds significantly,” said Mark Zandi, chief economist at Moody's Analytics.

The compromise plan, which still needs to clear Congress, would extend all Bush-era tax cuts for two years, give a 13-month extension of unemployment benefits and cut employee payroll taxes by two percentage points.

Initial reaction to the deal was positive, as uncertainty over US tax policy was cited as a factor discouraging companies from hiring, keeping the unemployment rate at an elevated 9.8 per cent.

Zandi estimated every dollar of government spending on unemployment benefits would give a $1.60 lift to the economy while every dollar spent on a payroll tax holiday would provide a $1.24 boost.

But economists estimate the package, which will also extend breaks on dividends and capital gains, could cost up to $1trn and boost the budget deficit to record proportions.

It comes at a time when Obama is under pressure to reduce the country's bloated $1.3trn budget deficit.

Ratings firm Moody's Investors Service said it was worried the extension of the tax cuts could become permanent, hurting U.S. finances and its credit ratings in the long run.