World week ahead: D-day on fiscal cliff

American budget talks have come down to the wire.

The largest stumbling block remains disagreement between Democrats and Republicans over the annual income threshold that will separate those who will see an extension in tax cuts and those who will not.

Congress has until Monday midnight to reach an agreement that will avoid tax increases and spending cuts.

"I was modestly optimistic yesterday, but we don't yet see an agreement," President Barack Obama told NBC's Meet the Press in an interview taped on Saturday, airing on Sunday. "And now the pressure's on Congress to produce."

"If Congress came out and said that everything is off the table, yeah, that would be a short-term shock to the market, but that's not likely," Richard Weiss, a Mountain View, California-based senior money manager at American Century Investments, told Reuters.

"Things will be resolved, just maybe not on a good time table. All else being equal, we see any further decline as a buying opportunity."

To be sure, lawmakers and White House officials also were preparing for the prospect of no deal until after January 1, and having to seek one in the new Congress that convenes on January 3, according to Bloomberg News.

The budget talks have taken the limelight from another problem: US government borrowing is approaching the debt ceiling, the maximum amount it can borrow.

Last week, Treasury Secretary Tim Geithner told Congress in a letter he was taking "extraordinary measures" to avoid a default, as the US was poised to reach the ceiling on December 31.

"I think there will be a tremendous fight between Democrats and Republicans about the debt ceiling," Jon Najarian, a co-founder of online brokerage TradeMonster.com, in Chicago, told Reuters.

"I think that is the biggest risk to the downside in January for the market and the US economy."

In the past five days, the Dow Jones Industrial Average and the Standard & Poor's 500 Index each shed 1.9%, while the Nasdaq Composite Index dropped 2%.

On Tuesday, markets will be closed for the New Year's holiday. Many European markets are closed on Monday too. Among the key markets, the FTSE 100 and CAC 40 are open on December 31; the DAX is now closed for the calendar year.

Investors paid little attention to upbeat US data released on Friday, carrying on the positive trend seen in the fourth quarter. Pending home sales in the US advanced for a third straight month in November, while business activity as measured by the MNI Chicago Report climbed to the highest in four months.

"There is nothing here to suggest that the economy has enough momentum to withstand the shock if we go over the fiscal-cliff with no quick return," John Ryding, chief economist at RDQ Economics in New York, told Reuters.

"The good news right now is it looks like we could have the mid-twos kind of GDP [growth] for the fourth quarter."

Economic indicators released in the coming days include the PMI and ISM manufacturing indexes, both due on Wednesday, and the monthly employment report on Friday.

Payrolls rose by 150,000 workers after a 146,000 gain in November, according to the median forecast of 54 economists surveyed by Bloomberg. The unemployment rate may have held at 7.7 percent, the lowest since December 2008.

On Wednesday, minutes from the latest meeting of the Federal Reserve's policy-making committee will also be released.

In Europe, the benchmark Stoxx 600 Index shed 0.8 percent last week. While optimism is starting to return to the region, the cost of financially rescuing its weakest links - Ireland, Portugal, Spain and Greece - continues to impact the strongest economy, Germany.

German gross domestic product, which grew 4.2% in 2010 and 3% in 2011, is forecast to expand a mere 0.9% in 2012.

Dieter Hundt, leader of Germany's employer association, told Reuters that Germany will avoid recession in 2013. "I'm expecting that we won't experience recession in Germany next year and the economy will once again grow at similar levels as this year," Mr Hundt said.

BusinessDesk

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