Over at the Big Picture they are discussing how silly the decoupling thesis is (the idea that that world economic growth now functions separately from US economic growth). Near the end they mention ten things that seemingly intelligent people have said, that have turned out to be complete rubbish, namely:
- The Yield Curve no longer matters
- Earnings at an unusually high % of GDP are sustainable
- The Business Cycle has been defeated
- Ignore sentiment readings, the population is just upset about Iraq
- Real Income gains are irrelevant
- Mean reversion no longer applies
- Supply side tax cuts pay for themselves
- Dow Theory is a quaint antiquity
- The (so-called) Fed Model “proves” equities are significantly undervalued
- Despite commodity prices, there is no Inflation.
Now people love to accuse economists of saying these thing, however I do not know any economists that have said any of this (or anything close to it). If you can think of any economists that said these sorts of things, link to them in the comments so we can have a closer look at their arguments.
It is important to remember that in New Zealand, both public and private sector forecasters have been criticised for forecasting growth that is ‘too low’ for so long, and now as soon as it does slow, we get criticised for not telling everyone exactly when it was going to happen! Economists can predict directions, but no-one can consistently pick turning points, so I think generally many forecasters did a good job 🙂
One thing we do know is that the longer a slowdown takes to occur, the worse it will be – not a particularly good thing to hear after five straight years of strong world economic growth.
Does this mean its time to panic (like the Fed already has to some degree), well no. Anyone who has done first year economics will remember that booms and busts are all part of the business cycle, its not the end of the world (contrary to popular opinion). A few economic fundamental are out of whack, and we need a time of readjustment before we can focus on further economic growth. In the US government and monetary policy should focus on limiting the depth of the recession, without causing more financial market moral hazard.
New Zealand is well positioned with a strong fiscal balance sheet, a low unemployment rate, and high commodity prices which will now be partially entrenched through international contracts. However, we remain vulnerable in terms of our large balance of payments deficit and a relatively high level of entrenched inflation expectations. Personally, I’m going to be watching commodity prices – although milk might ease a little further, new biofuel legislation around the world is likely to give beef (and possibly lamb) a boost through 2008.
Even in the worst case scenario, when the US economy goes into a full blown recession (two quarters of negative growth), we will see commodity prices fall – including oil. The exchange rate will fall (as we have a large balance of payments deficit), and the Reserve Bank has plenty of scope to lower interest rates. Our banking system is in great condition, ensuring that there will be a reasonable amount of liquidity, at least for consumers, in the New Zealand economy. My main concern would actually be relatively tight firm profit margins – if firms keep struggling to pass on costs then they will have to lay people off, or even shut down.