1 October 2008

October 1, 2008

It’s not just equity markets that are plunging . . .

The economics news last week turned from bad to worse. Just about everywhere in the developed world, published statistics revealed a deteriorating trend: sales softening; production declining; and orders collapsing. The debate was no longer about whether GDP would suffer a setback, but about how severe it would be and how long it would last. Were we faced with a two-year recession, or a twenty-year depression?

. . . so are economies.

Curiously, though the real economics data were so awful, establishment opinion continued to recommend the enactment of the Paulson Plan. Just at the time that America’s industrial and commercial sectors stood teetering at the edge of an economics precipice, the proposition was that they should release resources to try to save a financial sector that had already plunged into the abyss! The administration was playing Robin Hood in reverse: it wanted to steal from the poor to give to the rich; to punish the innocent and reward the guilty!

The establishment’s response?

It wasn’t only the Executive Branch that thought thus. It was, additionally, both sets of Congressonall leaders, and both teams of Presidential candidates. Outside the States, opinion was even more incongruously sympathetic. In the UK, Prime Minister Brown and Chancellor Darling, Governor King and Regulator Turner all felt it worthwhile voicing their support. Likewise, in Europe, Sarkozy and Trichet. And, likewise as well, newspaper editors and television anchors everywhere. Indeed, it was almost impossible to find somebody with demonstrably impaired judgment who was against the Plan!

An unthinking acceptance of the Paulson Plan!

Why? Because it has come to be accepted that banks are more important than other enterprises; that if the former fail, so inevitably do the latter. There are historical precedents for such beliefs—all of them promoted, self-servingly, by interested parties. In the early years of the industrial revolution, for instance, it was thought that agriculture occupied a pivotal role: who would industrialists sell to if farmers were impoverished, the latter asked. Subsequently, industry itself appropriated the role of the chosen sector: what’s good for GM is good for the US, said the company’s Chairman in the sixties. Today, it is those in the financial services sector who spout an equivalent line of nonsense.

Why? Does it have theoretical or empirical justification?

The surprise is not that Paulson, ex-CEO of Goldmans, talks drivel; it is that others go along with him. What makes Bush succumb to an argument he doesn’t understand? What makes the British establishment, moderately well educated in all matters other than economics and finance, hazard an opinion? As for the Europeans, it’s doubtful they understand the question that’s been posed; never mind the answer that’s been posited.

No. But nervous administrators want to be seen to be in charge.

Perhaps it’s just the wish to be seen to be doing something—pointless activity being deemed preferable to pointless inactivity. It’s psychologically important in a crisis that the children not see the adults panicking. The army has known this for years: if in doubt about what to do, the officers get the squaddies to dig a trench; in extremis, they have them paint the coal black.

What they need to do is cut interest rates.

But is there nothing sensible that can be done for the world economy? Are Central Bankers, Treasury Officials and Financial Regulators entirely impotent? Reduced to the status of drum-majorette cheer-leaders? Fleetingly entertaining because of their antics, but substantively irrelevant because of their mindlessness? Of course not. It is possible for them to help rather than hinder. They can, and they doubtless eventually will, cut interest rates.

Eventually, when all else has failed, they will.

By how much? By enough either to re-invigorate economics activity or to revive credit markets. Is that doable? Possibly not. It may be that rates even as low as zero would not accomplish the trick. But what is certain is that lower is better than higher; and sooner better than later. The West in the thirties and Japan in the nineties demonstrated that action delayed becomes action nullified. If the world’s Central Bankers had any sense of history, any understanding of depressions, they not fret about containing inflation, but concentrate on boosting demand. They’d repudiate fiscal tinkering, moreover, in favour of monetary stimulus.

Equities then will rise.

And the markets? They chances are they’ll rise. If the scales fall shortly from the eyes of the authorities, if Paulson and his likes are redeployed to less intellectually demanding jobs, ones that match requirements to abilities, the world will be a happier place, asset values on a higher plane.

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