Responses to Nato:

If the rest of the world wasn't tanking right along with us, one might have more cause to believe that Obama has some amazing power over the economy, but it is. The PotUS has limited control over US economic performance - especially in the short run - and even more limited impact on the rest of the world.

I'm not at all sure that's true.  First, the fact that the rest of the world is tanking too does not at all prove that the unfolding crisis isn't driven by events in the United States.  I'm not sure anyone understands, exactly why, today as well as in 2000-01, global economic business-cycle movements are so coordinated, and certainly I don't pretend to.  Yet it seems to be the case.  In fact the coordinated drop in stockmarkets worldwide almost inexorably suggests that there is some powerful web of interdependency emanating from the United States.  As for the PotUS's small impact on the US economy, two points: 1) that may have been true in the past, but it's less plausible today because government intervention in the economy has grown so much, and 2) presidents probably have always had much more power to hurt the economy than to help it.

Most economic events are far more easily explained by factors other than the details of Obama's plans.

Explaining stock market movements is hardly ever "easy."  Politics is often the easiest explanation, but may not be the truest.  The 4.2% stockmarket drop on March 2, 2009, is an exception.  Obama revealed a budget that jeopardizes the long-run solvency of the United States in a way that has perhaps never been done before; markets digested the news; and got spooked.  That's why I was able to predict it, which I've never tried to do before and may never do again.

For what it's worth, I think that those details are, on balance, a net negative for the economy, but at a level that would fall well below the noise floor.

How would projected deficits of trillions of dollars, deficits that will never fall below 3% of GDP under the rosiest scenarios, and then explode, be so unimportant as to "fall well below the noise floor?"  I don't get it.  The markets are big, but not so big that fiscal events on this scale are irrelevant.  I have no idea how Obama's fiscal time bombs will play out.  Maybe Congress will strip the Fed of its independence and monetize the debt through inflation.  Maybe there will be a desperate class war as the government fleeces the productive classes to pay its rentiers.  Maybe there will be an outright default.  I think we're kidding ourselves not to admit that Obama's deficits are highly dangerous.  I think they put the whole social fabric of America in jeopardy.  Investors would be idiots not to foresee big trouble, and to commit to projects now is begging to be at the losing end of it.

If this is not true, then it would seem one would have to make some special pleading to avoid Bush 43 being equally responsible for the results during his tenure:

DOW
Oct1 2000:10273
Oct1 2008:10831
0.66% annual growth

Nov3 2000:10817
Nov3 2008:9320
1.84% annual loss

I would hold Bush 43 responsible for these results.  I've defended Bush on Iraq and tried to rein in excessive criticism on the deficit.  Also I was naturally more favorable to the Bush domestic policy record in, say, 2006, than now-- "when the facts change, I change my mind," as the saying goes.  At this point I'm more than ever convinced that the low spending and fiscal conservatism of the late 1990s were great for the economy, that's the bliss point we need to get back to. Clinton and the Gingrich GOP were good; Bush, not-so-good; and Obama, much worse, precisely because he's going even further in the same direction as Bush, cutting taxes and growing the government with new deficit spending.

Neither makes for a very flattering result for Bush 43. Is it his fault? Not really, no, but it's strange that Nathan gives Bush credit for the boom in the developing world while the US economy stayed stagnant, then feels it makes the most sense to attribute the recent stumbles of the global financial markets to the guy who just showed up at the scene.

No, it's not strange. I might be wrong on both counts, but I'd be consistent in my mistakes, attributing too much influence on the world economy to the US and the US president. Actually, recent events, precisely because of the striking degree of global coordination in the crisis, make me rather more convinced than I was that the global boom was driven by US fiscal policy (previously I was just putting it out there without attaching a high likelihood to it).  But it also makes me think the boom may have been of an unsustainable, even unhealthy nature and that it's far less credit to Bush (or anyone else) than it seemed to be in 2006 or 2007.

By all means criticize Obama's responses to the various crises, but reading into every swing of the market - in the presence of other obvious proximal causes of those swings - a verdict on Obama's latest statement is bizarre.

I certainly wouldn't attribute every swing in the market to Obama's statements.  The budget announcement is the most significant statement by Obama so far, because it is the strongest sign yet of what his presidency is likely to be like, and makes it look more left-liberal than it had previously seemed.  It now looks unlike that Obama will be a centrist or moderate in any significant way unless the GOP wins Congress in 2010 and he has to change like Clinton did.  So I do attribute the March 2, 2009 drop to Obama's statements.

More generally, I think the ongoing breakdown and transformation of the US economic constitution in the past six months, towards something far more national-socialist and corporatist, with the possibility of a level playing field for business and a stable public/private dichotomy retreating into a distant dream, is the dominant factor driving market movements in recent months.  This is by no means all Obama's fault.  If anything, until now, the biggest player was Henry Paulson.  The trouble is that Paulson in effect greatly expanded the discretionary, arbitrary role of the federal government in the economy, and this excess power fell into the hands of Obama.  Till now Obama has looked like rather hapless, but now he's asserting himself as an actor in history, and in effect he's waging class war.  He doesn't know he's waging class war.  Presidents usually only have a dim conception of the historical role they're playing-- Clinton had little, Bush only a bit more-- but Obama's grasp of current history is vacuous and childish to an extent that I suspect has few parallels in the history of the Republic.  Suffice it to say that he thinks that his campaign slogans of "hope" and "change" meant something rather than being empty escapism useful in suckering into a coalition an array of malcontents who had nothing substantive in common, which even his cannier supporters knew full well would be exposed as a travesty as soon as he came into office.  He thinks that the liberal counter-narrative of the Bush years was not only a coherent view-- as opposed to a collection of fashionable sneers of latte liberals insulated from responsibility-- but the obvious truth, to which indeed Obama lacks the curiosity to explore the alternatives.  So Obama thinks he's just doing the right thing, acting on the liberal pieties that all right-thinking people knew we ought to do all along and didn't because we were "irresponsible."  But what he's really doing is waging class war.

The deficit, in particular, is an instrument of class war.  It hangs the threat of future tax hikes over the heads of anyone, and investors in new capital particularly, who does anything that will lead to a high future income.  Of course, it might work out differently: maybe the rentiers, the holders of currency and government bonds, will be on the losing end of the class war, if we monetize the debt through inflation.  Obama's tax hikes on the rich I would not class war, if the rich would get something in return, such as a reduction of the deficit that would help raise the stockmarket and put some value into 401(k)s.  But now Obama wants to raise taxes on the well-off and exacerbate the deficits that only point to more tax hikes later.  And he's raising taxes, such as capital gains, that are especially destructive to incentives.  The Atlas class, the class that is at the heart of the nexus of making and doing in this country, is under siege.

The growth of deficits is certainly something Bush can be blamed for.  I think it's a big part of the cause of the present crisis.  But Obama's deficits are on a new order.  With Bush, you could argue, though only just, that the deficits were sustainable, and that we might be able to keep paying the bills without a radical fiscal reorientation.  I don't see how that's possible now.  If I were a representative of the US Treasury trying to explain why it was sensible to lend money to the US, how, given recent political trends, we're going to manage not to go broke in the long run, I don't think I could do it.

I don't think there's a better explanation that that for why the markets are running scared.  Or even close.

Comments

[nato]

"The 4.2% stockmarket drop on March 2, 2009"

Was two trading days after the unveiling. On Friday, the day after Obama's plan came out, the estimated rate of DPG contraction in Q4 2008 was almost doubled. Then, ahead of March 2 AIG announces a $62 billion loss. That's a pretty big loss, approaching 10% of the whole stimulus plan right there.

"That's why I was able to predict it, which I've never tried to do before and may never do again."

When Nathan predicted it, Asian markets were already tanking on the AIG news. At that point, predicting that US markets would also drop was the equivalent of prophesying the rise of the sun in the east.

Finally, I find it strange that Nathan and I seem to have switched places. I used to argue (and actually still do) that deficits matter, and that large US deficits increase credit risk. Specifically, I said that large deficits reduce confidence that the US can counterbalance the high debt load carried by the private sector. If that was a prediction, then boy has it panned out. Well, time has come for the US to use its balance sheets to ameliorate a credit-based liquidity crisis, and yeah, it looks awful. But this is the crisis that the balance sheet is *for,* so complaining that Obama's budget creates huge deficits is a bit beside the point.

The real issue is the *kind* of deficits, and that is a real worry. Am I all that worked up about the tax hikes? Not really - they're within reasonable historical parameters, and I believe we're in the midst of the neo-Laffer section of the curve. The long term increases in spending and the lack of any real entitlements reform is the gut-wrenching part. Those kinds of deficits are hard to fix.

[Nathan Smith]

re: "Finally, I find it strange that Nathan and I seem to have switched places..."

Certainly I have become more anti-deficit recently as a result of events. Though never sold on Bush's domestic policy and his deficits, it did look for a while there as if a sort of global Keynesianism by the Bush administration might be doing a lot of good. I had an anti-Keynesian bias from which I was retreating in response to empirical developments. In response to more empirical developments I'm returning to it with a vengeance.

I do think it took markets a little while to digest the implications of the Obama budget. This is logical. People have to read it. And it takes a little bit of thinking to say: "Wait a minute, what does this say about the kind of presidency we have to look forward to? And about the long-term fiscal position of the US..." The efficient markets hypothesis can't mean that a massive, transformative new budget with vast implications for the fiscal future of the country can be exhaustively comprehended in a moment.

re: "But this is the crisis that the balance sheet is *for,* so complaining that Obama's budget creates huge deficits is a bit beside the point."

I don't know what Nato is talking about here. Complaining that Obama's budget creates huge deficits is not remotely beside the point. It is priority #1 for any economic commentator, if not for every citizen. It is about as relevant as anything could be. A smaller and more temporary deficit pointing to long-term solvency could certainly be justified as appropriate crisis response (is this what Nato is trying to say?) but Obama's budget is an entirely different animal.

[Nato]

"A smaller and more temporary deficit pointing to long-term solvency could certainly be justified as appropriate crisis response (is this what Nato is trying to say?) but Obama's budget is an entirely different animal."

This is, more or less, what I'm trying to say. Basically, the new spending scenarios are difficult to roll back, and will lead to 1) another eventual tax increase that will take me much further outside my comfort zone or 2) a permanently higher level of government debt, which will leave us even less prepared for the next crisis.

Now, projections made when the economy is in the toilet always seem to underestimate future revenues in the same way (though probably not to the same extent) that projections made during booms overestimate. Thus, I think if real expenditure levels go no higher than listed, we have a good chance to return to something like a balanced budget in the 2012-2013 timeframe. However, this 3) isn't close to a safe assumption and 4) would still leave us with a higher debt load to carry for another couple generations*.

So all in all I was pretty unsettled by that budget in a way that I was not by the stimulus. Before I really decide what it means, however, I need to see what happens when it starts going through congressional negotiations. It probably has had an effect on the market, and probably not for good. I fail to see, however, why one would choose to go from there to deciding that everyone had to sleep on it, then sleep on it some more all weekend, and *then* all panic together.

*Assuming we don't have a period of fairly rapid inflation coming upon us soon - a distinct possibility as I see it.

[Tom]

"Assuming we don't have a period of fairly rapid inflation coming upon us soon - a distinct possibility as I see it."

This is really the key, isn't it? When stocks, housing, energy, etc have massively deflated, the appropriate response is to soften it through inflationary mechanisms, similar to what Nathan has already proposed. This has the added bonus of devaluing long-term debt.