## Tuesday, May 12, 2009

### A rapid recovery is unlikely

I have a piece in Financial Express today titled A rapid recovery is unlikely. Also see Avinash Persaud and Ken Rogoff on this.

1. Good post - They need to balance unemployment with deflation and (expected) inflation, whilst they stop the economy from contracting. Will be very interesting to see how things pan out, and you rightly say these are unprecedented post-war times given the global nature of the problem.

2. Some differences with your assumptions, though I would agree with the overall conclusion.

The US adminstration will not need to go back to the Senate to ask for more money to recapitalize banks. The original TARP money was created as preference shares. By sleight of accounting, converting these to ordinary shares achieves re-capitilisation. Secondly, the political environment has tilted in what, with hindsight, seems obvious - with Congress claiming that TARP money gives them a right to dictate to TARP banks. This is actually wrong - the US doesn't need to regulate the banks who are drowning, those banks are unlikely to do the same stupid things. It needs to regulate the banks who are now healthy and are going to rush in to do the stupid things that (they believe) made money in the past. However, the practical impact is that US Banks are trying as hard as they can to repay TARP money.

This doesn't fundamentally affect your analysis though, because European banks have not yet taken the writeoffs that they need to, so the basic point remains, sort of - that banks will be undercapitalized.

The Adminstration is unlikely to have too much of a pushback if it does ask for more stimulus money, but if their figures of job creation are to be believed, they should not be asking for more.

I fail to see why you think that there isn't the political will to effect bank regulation.

About pt #2, that is the reason for the stimulus package and near zero interest rates. That doesn't neccesarily mean that the economy is going to bounce back right away, just that the point that you make is well understood by policy makers, who are attempting to act against it.

About pt #3, mostly agreed, but my assumption is that the hugely lower factor cost of commodities, especially oil, is going to help.

The big change in the S&P 500 reflects a fundamental change in the pricing of risk (or risk averseness). One has to be wary of drawing conclusions from the price movements. Again, I mostly agree with the statement, but not sure that the conclusion directly follows from that data.

3. I think we are still discussing & rightly so focusing on cleaning up the global balance sheet!

If the global economy (particularly the US) were a company, maybe it was close to being filed under the BIFR (or was it already a BIFR case?). Central govts across-the-globe just saved it in time, maybe.

But, we still have the global economy's profit & loss a/c (read growth in real demand for goods and services) to worry about. You are right Sir, a rapid recovery is unlikely.

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