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Sunday, July 3, 2011

Uncertainty is Not A Temporary Factor

This is a preface to an article published in this week's economist under the title "Temporary factors proving temporary".

The title of this article is very interesting. But it is also disheartening. I think it is disheartening because it demonstrates a deep and troubling lack of understanding of global economics as a complex dynamic system fraught with uncertainty and emergent phenomena.

What is absolutely disappointing is that the Economist imagines that bad weather, high gas prices, seismic disasters such as the Tsunami are temporary factors.

Projections of national or global economic growth can no longer predicate growth on a handful "known" market fundamentals.

Complexity and systems literacy is absolutely fundamental. I would hope that globally significant and authoritative magazines such as The Economist would function as a robust fora for promoting public understanding of complexity, systems dynamics and more importantly, uncertainty.

However, I absolutely agree with the article on the effect of the US Congress on economy. The reason the US economic recovery has stalled is not external. It is not China. It is not natural disaster. It is not oil prices. It is the dysfunction of US domestic politics. The polarization of the US Congress based on false and naive ideological choices is the biggest threat to the US economy.

Here is the article.

THROUGH the first half of the year, one factor after another weighed on the American economy, disappointing forecasters (and workers) who'd been looking forward to 4% or so GDP growth. Patience, countenanced Ben Bernanke; when these temporary factors—bad weather, high petrol prices, seismic disasters, and so on—eased off, growth would bounce back. But as the months wore on, it seemed like temporary negative factors might be dragging down expectations and threatening to set of another summer swoon.

That worrisome outcome is not entirely out of the question, but it is looking less likely by the day. Japan's post-disaster economic slump seems to be ending, and American firms impacted by the disruption of supply chains are gearing back up. High automobile prices, due again to supply disruptions, dragged down auto purchases and pushed up inflation, but these trends too seem to be reversing. Petrol prices have dropped about 40 cents since the beginning of May, providing much needed relief to American consumers. And housing markets are showing some signs of life.

The good news is translating into good data. Industial production surprised to the upside in June, according to figures released today. Home prices ticked up in April and, according to one survey, in May as well. Serious delinquencies continue to decline, and pending sales rose in May for the first time in over a year. Labour markets remain shaky, but initial jobless claims, while still high, have backed away from their recent peak near 500,000. Equities are following the good news; stocks are up over 5% since mid-June.

So what happens now? In the hopeful scenario, the reversal of the first half's negative trends brings a return to the stronger job growth seen early in the year—the 235,000 new jobs seen in February rather than the 54,000 added in May. And ideally, these job gains support more spending and continued recovery in housing markets. One hopes, in other words, that the economy regains the trend it seemed to be on early in the year. That trend growth rate was too slow (it still implied a return to full employment somewhere off in the distant future) but it was far better than the prevailing pattern in April and May.

Unfortunately, America isn't out of the woods yet. European crisis could yet spin out of control. Commodity prices should stay moderate as overheating emerging markets rein in their growth, but oil markets remain tight and a stronger American recovery could easily mean a new jump in petrol costs.

The biggest threat to recovery, however, is associated with America's domestic political situation. If this bounce back persists, the Fed will be really and truly done with its easing, despite continued high unemployment and continued moderation in inflation. In the best of circumstances, fiscal policy is set to tighten. In all likelihood, a debt deal will mean that fiscal policy tightens quite a lot. And in the worst case, the failure to reach a debt deal will mean either catastrophic fiscal tightening or a default, which would probably send America quickly back into recession.

Washington is the biggest threat to America's economy. It shouldn't be. It should be working to make sure that recovery continues and accelerates. At this point, however, the big question seems to be: just how much damage will Congress do to a recovery that is managing, just, to keep its head above water.
Sent from my BlackBerry® smartphone from Zain Kenya

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