Monday, November 2, 2009

The Current State of the Manipulated Economy

By Mario Rizzo

The Gross Domestic Product (GDP) is growing again at an annual 3.5% rate for the third quarter of 2009. Some people say this means that the recession is over. Apart from the much-touted stubborn unemployment problem, does this make sense?

The government is spending and will be spending massively. Some of that is moving through the system directly increasing demand for the output of particular agents. Even agents outside of the direct path of the stimulus may spend because they anticipate that some of this government spending is or will be complementary to their own spending.

There are two pertinent and interrelated questions.

First, is this a reflection of the pattern of consumer preferences? We should recall that the great economist Jean-Baptiste Say defined production as the “creation of utility.” It really is no-brainer to induce the production of stuff. Whether it is the “right stuff” is another point. The current fashion in macroeconomics is to ignore all issues of resource allocation. But these are important if we are to avoid the error of simply focusing on GDP as it if were the outcome of a welfare-enhancing market process.

Second, is this sustainable in the long-run without continual stimulus? If the direction of resources is not in accordance with the preferences of the relevant agents it will not last.

Right now, massive deficits are being run. A trillion a year as far as the eye can see. Interest rates will be higher later because of this. Taxes will also be higher either to reduce the deficit or to pay the interest ad infinitum. These will have effects in dampening GDP growth. There will be output (of indeterminate value to consumers) now at the expense of lost output in the future.

The full analysis is must read, and is here.

1 comment:

  1. Robert,

    It looks like the volatility you have been talking about is really here. Question, do you have any explanation for the peculiar trading activity at the close of the last 3 days? Look at a 5-min chart. The range on the last candle of the day is truly massive. The volume of same is equally strange: either very high or very low. Options expiration...PPT...?