Which is it?
Scenario 1. Inflation is rising. This pushes interest rates up. Rising interest rates raise the cost of borrowing and reduce spending. Lower spending decreases profits and causes firms to produce less and hire fewer workers. Lower profits reduce the value of the firm and cause the stock market to collapse.
Scenario 2. Piles of accumulated savings, expansionary monetary and fiscal policies, and continued progress against the Covid virus cause people to expect a strengthening economy. This leads to expectations about higher future profits as firms not only produce more but also are emboldened to raise prices. Banks raise interest rates as this sanguine scenario causes firms to borrow money to finance economic expansion.
In Scenario 1 we start with what we are observing in markets today -- rising inflation and interest rates. In Scenario 1 we are very worried that the rising inflation and interest rates are going to lead to negative outcomes in output, employment, and the stock market. Scenario 1, therefore, might be part of a case for why national policy should be more expansionary.
Notice that Scenario 2 is driven by an optimistic expectation about the economy. The economy will be strong enough to produce more without further expansionary national policies. While it is true that inflation and interest rates rise in Scenario 2, these increases are not expected to slam the economy into reverse. Instead, they are seen as a part of a strong economic expansion. Surely rising interest rates and inflation might nip at spending increases, but these detractions are seen as minor compared to the spending increases generated in the expansion. Scenario 2 asks for no additional national expansionary policies. Past policies have generated enough growth and momentum.
So which is it? Do you like Scenario 1 and prefer more government stimulus? Or is Scenario 2 more to your liking with its lack of need for additional national stimulus?
You can't have both. Suppose you pick Scenario 1 and 2 is correct? What are the results for the economy?
Suppose you pick Scenario 2, and 1 is really correct? How does that combo impact the economy?
I am guessing that our current government believes in Scenario 1. They worry that the economy is going to fail. Rising inflation and interest rates are going to kill a weak recovery. They will pile on more stimulus. I worry that they are wrong and they will end up stimulating too much! Wait until you see inflation and interest rates soar!
Dear LSD. Hope you enjoyed your sabbatical last week and that over-serving yourself JD hasn’t blurred your recollection thereof. I’m unshure if either of your binary choices of Scen 1 or 2 will occur. Me thinks more likely will be mishmash of economic outcomes due to the administration's schizophrenic policies cauz’d by inability to git its hed out’a the “I hate DJT” tar baby’s arse.
ReplyDeleteMarketz and bidnessizes at a minimum like a modicum of certainty and schizophrenia’s playbook doesn’t allow that play to be called. Unfettered illegal immigration with attendant health, education, entitlement, and security/enforcement costs; $1.9 T in unneeded stimmilus; possible massive 3T infrastructure spending, increased taxes on profits, stock transactions, and wealth; and unfettered control of govomit at least until 2022 will play havoc with marketz ‘n bidnessizes ability to have any confidence in forecasting profits and planned costs/outlays.
The crazies are running the asylum. Neither Scen 1 or 2 but ?!?!?!?!?!?!?
I take pride in over-serving myself and friends. Thank you. You hit the issue right on the nose. It is not really about a difference of opinion about cause and effect. Instead, it is about an unrelenting desire to use government debt and regulation as a salve for all that bothers us. As you say, a tidal wave of government is going to disturb us for a long time. Business uncertainty will rein supreme.
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