How the Economy Will Swing the Election—in 2012

No matter what Washington does, odds are that voters will still be disgusted two years from now

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Big plans. Every time a new group of politicians arrives in Washington, they intend to remake government and fix everything the last bunch screwed up. That's clearly what the incoming group of reformers hopes to do over the next two years.

[See 12 ways to stop America's decline.]

But chances are, the economy—which is likely to be the decisive issue in the 2012 elections, just as it has been this year—will muddle along on its own, more or less impervious to what goes on in Washington. For better or worse, Americans have obviously grown tired of government interventions in the economy. So for the next two years, there's likely to be the usual shouting in Washington over lost jobs and declining prosperity, but not much action. Even if that weren't the case, the government has already exhausted many of the standard methods for reviving a weak economy. And worries about the swelling national debt undermine Washington's ability to do much more.

The result, in two years, is likely to be an economy that's pretty similar to what we've got now. But that won't calm the political warfare. With the presidency at stake in 2012, there will be even more for Democrats, Republicans, Tea Partiers, and plain old voters to fight over. In fact, with economic accomplishments scarce, the battle once again is likely to pivot on who's most effective at blaming the other side for what's wrong.

Economic predictions are notoriously shaky, but political strategists are already planning the 2012 campaigns based on what's likely to be on voters' minds in two years. So I asked forecasting firm IHS Global Insight for some of their predictions for the fourth quarter of 2012. If there are no unforeseen shocks over the next two years (an epic qualifier), here's how IHS foresees the economy the next time American voters go to the polls:

GDP growth will be about 3 percent, which is better than the current rate of about 1.7 percent—but still too slow to repair a lot of the damage done during the recession that ran from 2007 to 2009.

[See how to force Washington to fix the economy.]

The unemployment rate will be about 8.8 percent. That's better than today's rate of 9.6 percent, but it will still be way too high. Most economists expect job creation to be painfully slow in the coming years, which could cement pessimism about the job market, raises, promotions, and the ability of ordinary folks to get ahead.

Consumer confidence will be slightly better than it is now. Woo-hoo.

Inflation will stay low, probably around 2 percent. That's a stealthy boon for families struggling to get by. But at a time when incomes are falling and jobs are scarce, politicians won't win points for low inflation.

Interest rates will probably still be low, although IHS expects the Federal Reserve to start raising short-term rates at some point in 2012. That would actually be good news, since it would signal that the Fed has growing confidence in the economy. Still, other forecasters think the Fed will wait until 2013 or later before it feels comfortable raising rates.

The federal deficit for fiscal year 2012 will be about $665 billion, according to the Congressional Budget Office. That's a lot smaller than the $1.3 trillion deficit in 2010, but over the next two years, the overall national debt will still rise by nearly $1.7 trillion.

[See who's gained and lost under Obama, so far.]

Home sales will be up about 28 percent from the severely depressed levels they're at now, which would finally mean that a housing recovery is underway. But prices won't rise by nearly that much, and it will still take years for many homeowners to regain equity they've lost since the housing bust began in 2006.

The S&P 500 stock index will be up by about 16 percent from where it is today, according to IHS. Nothing's harder than predicting the stock market, but if corporate profits rise modestly as expected and there's gradual improvement in the broader economy, stocks should drift higher. If it happens, rising stock values will help wealthier Americans feel better off.

Real incomes will be a bit higher than they are now, which means the typical earner would be slightly better off. But that still wouldn't be enough to overcome the sharp drop in median real income that occurred during the recession—so a lot of people would still feel like they were falling behind.

[See how government gridlock would harm the economy.]

Plenty of things could change this outlook, and most of them are negative. The foreclosure mess, for example, could mushroom into another financial strain on the banks, prolonging the housing bust and perhaps even requiring more bank bailouts. Battles over exchange rates and trade balances could become full-blown protectionism. An unforeseen global shock, similar to the Greek debt crisis, could unnerve investors. As America's national debt gets bigger, there's a growing chance that global investors will lose confidence in the dollar, forcing the U.S. government to pay more to borrow. Gridlock in Washington—or hints of extremism—could harm the confidence of investors and business leaders eager to see a credible plan for reducing the national debt. With the economy so fragile, IHS estimates that the odds of another recession over the next year or two are about 25 percent. Other forecasters think it's higher.

Things could also be better than expected two years from now. If gradual improvements in the job market start to make it feel like mainstream workers are gaining real traction, it could translate into growing confidence, even if unemployment remains high. In 1984, Ronald Reagan swept to reelection by persuading voters that it was "Morning in America," even though unemployment in the aftermath of the 1982 recession was an uncomfortably high 7.4 percent on Election Day, as Gerry Seib pointed out recently in the Wall Street Journal. The clincher was Reagan's optimism, plus a widespread sense of tangible improvement that backed it up.

[See what could cause the next recession.]

It's also possible that the opposing parties in Washington might really work together to create jobs, preempt a fiscal disaster, and revive America's national pride. That's not in anybody's economic predictions, however, so if you're placing bets, study the 2010 elections very carefully. Voters two years from now might feel nearly the same as they do today, except they'll have a few new politicians to blame it on.