This $145-billion U.S. economic incentive package being proposed today is coming across badly. Henry Paulson’s press conference is a fuzzy mess, making the ill-defined package seem rushed, ill-thought, and generally panicky.
Markets, after initially being nonplussed, seemingly like it, however, with them currently trading higher, so that’s likely all that matters right now.
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Inflation has two causes, too much money chasing too few goods and the rising cost of broadly relied upon commodity (such as oil… or taxes). The latter, though it drives prices up, like excess taxes, creates recessionary pressure that can later result in recession. For a while the rising cost of oil didn’t seem to impact our economy because there was enough momentary excess funds (albeit paper gains of rising real estate an stocks), but those “funds” have been depleting, ultimately hitting homeowners hard enough to affect foreclosures, in turn, real estate prices and mortgage backed securities. Incidentally, the same strategy of risky mortgages repackaged as securities is, was, a worldwide practice, making the crash in that market also worldwide.
Inflationary prices plus a recession is called “stag-flation” and as in the early 80′s also accompanied by a weak dollar. A weak dollar is caused by too many dollars circulating overseas – petrodollars, tourist dollars and the result of our spending on imports. Greenspan handled it the early 80′s by tightening credit, essentially wringing those excess dollars out of the world economy, repatriating them back in the U.S. by way of U.S. government securities. In the 80′s our stag-flation began to ease when other governments had to begin raising interest rates on their government securities to compete with interest rates provide by the U.S. That process resulted in the longest period of U.S. economic stability, ever.
However, true to its thought disorder form, this administration is simply trying to solve a problem by throwing money at it; sounds good, good P.R., but it will exacerbate inflation pressures by adding money to the inflationary fire, just what oil companies would like, more money for oil…
High interest rates is a bitter pill to swallow, but it is not permanent; spending on business expansion, real estate prices and new home sales will be kept low for a couple of years. More importantly though, it will also drive down the price of oil, the main inflationary factor. It is a necessary step to stabilize and re-sync our currency and economy with that of the rest of the world.
Correction: It was Volker who raised interest rates in the early 80′s.