Thursday, October 7, 2010

Fear in the economy is a depreciating asset----By Shan Saeed

Greenspan: Fear, Confidence Crisis Undermining US Recovery

Confidence is the main driver in the economy and fear itself is a depreciating asset for the economy and pretty pernicious indeed. It’s highly unlikely that ex-Federal Reserve Chairman Alan Greenspan would call himself a Keynesian. But he obviously agrees with the legendary economist John Maynard Keynes that “animal spirits” represent a crucial ingredient of a healthy economy.

A crisis of confidence grips the economy, Greenspan said. That helps to explain why GDP growth slipped to 1.7 percent in the second quarter from 3.6 percent in the first quarter.

Capital investment should have climbed sharply in recent months, as corporate profits soared, Greenspan wrote in the Financial Times. But that investment has fallen short, and that combined with a collapse of the consumer sector has depressed the economy. Double dip recession is inevitable...Recession is not a business cycle but a consumer cycle..When consumers dont spend, businesses dont invest, the economy shrinks...This is a true definition of recession.....

“These shortfalls (are) the result of widespread private-sector anxiety over America’s future. And they have defused much, if not most, of the impact of the administration’s fiscal stimulus.” Moreover, the government’s intervention in the economy through that stimulus has itself increased the anxiety. Markets dont prefer government intervention. It creates distortion....

“The instinctive reaction of businessmen and householders to uncertainty is to disengage from those activities that require confident predictions of how the future will unfold. Both the corporate and consumer sectors are unwilling to invest in illiquid assets. Instead there has been a massive move to the safety of Treasuries.

“It is this rapid rise in aversion to illiquid risk that explains a large part of the anemic recovery in the U.S.Government intervention in the economy is a problem now. Almost all economists and policymakers agree activist government was necessary in the immediate aftermath of the Lehman bankruptcy.

But the $862 billion fiscal stimulus has been of questionable value.And he’s not too impressed with the new financial reform law.It is going to take years to address the unprecedented complexity of final rulemaking required in the massive Dodd-Frank bill.

“The inevitable uncertainty engendered will inhibit financial innovation and intermediation, and render the rules that will govern a future financial marketplace disturbingly conjectural.”Uncertainty will be the result. This is bound to have a significant impact on economic growth.” Deleveraging will be a drag on the economy creating a subpar growth for the next 3-4 years.....

Star economist Robert Shiller agrees with Greenspan about the confidence deficit, though he thinks more government intervention is needed to boost confidence rather than less.

“In a broad sense, damage to morale — which Keynes called “animal spirits” — surely ranks as one of the most important reasons for the American economy’s persistent weakness. Meanwhile, James Grant, editor of Grant’s Interest Rate Observer, shares Greenspan’s wariness of government intervention, informing that regulators are looking behind at the last crisis instead of ahead at what dangers lurk.

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