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Tuesday, December 28, 2010

How Fast Will the Economy Recover?

[I just posted this at CBS MoneyWatch:]

I have been pretty pessimistic about the speed of the recovery. The worry is not about a double dip -- I think the probability of that happening is pretty low. But I have been worried about an "agonizingly slow recovery," particularly for employment, one that is measured in years rather than months.

However, recent news such as the rise in long-term interest rates, which appears to be due to the expectation of a better economy ahead, along with better than expected Christmas sales, changes in the yield curve, falling jobless claims, increased consumer spending, and other signs of an improving economy had me thinking that I may need to reassess my pessimism. Perhaps the recovery will still be drawn out, but not quite as slow as expected. That would be good news.

But two pieces of data released today have me moving back toward the more pessimistic outlook. Consumer confidence is down, and house prices are still falling. The fact that the fall in consumer confidence seems to be related to a fall in job market prospects adds to the worries. Overall, recent data has been mixed with some encouraging signs coupled with signs that we still face significant hurdles.

So where does that leave us? I can't help but hope that despite today's data and other negative signs the economy will do better than I expect. But policymakers must recognize that we do not yet have the all clear sign, the economy will likely still need help to recover. Thus, although further stimulus is off the table after the tax deal, policymakers must resist the temptation to ignore negative data and to focus instead on the data pointing to a faster recovery than expected as an excuse to cut the deficit (and hence the stimulus) before the economy is ready to stand on its own. As I said recently in response to a question at The Economist, cutting the deficit too soon could cause big problems:

... If Congress had credibility, there would be no need to worry about the trade-off between helping the economy escape the recession and reducing the deficit. Congress could do what is needed to help the economy now, and promise—credibly with specific plans—to reduce the deficit once the economy has recovered. That would give us the best of both worlds.

But, unfortunately, that's not the Congress we have, credibility is not its strong suit, and legislators seem determined to demonstrate their intent with actions now rather than a commitment to take this up when the economy is stronger. This will place additional drag on an already slow recovery...

So let's hope we can at least realize the promise of gridlock and maintain the status quo until the economy is on better footing. ...

Will talk of deficit reduction turn to action before the economy is ready for it? Unfortunately, I don't think we can rule that out, but the worry may not be as large as one might presume from media reports on the GOP's deficit fighting intentions. As the CBPP reports, House Republican Rule Changes Pave the Way For Major Deficit-Increasing Tax Cuts, Despite Anti-Deficit Rhetoric. So it appears that the deficit reduction rhetoric may be an excuse to cut spending on programs the GOP does not like, e.g. cuts to social insurance programs, rather than an actual intent to cut the deficit. However, we need more spending on social programs not less -- insecurity is growing in our increasingly global economy -- and tax cuts accompanied by cuts to social services would be going in the wrong direction.

    Posted by on Tuesday, December 28, 2010 at 11:16 AM in Economics | Permalink  Comments (43)


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