Which Is It, Mr. Roubini – Easing or Recovery?

by Nigel Bolton-Shaw on October 15, 2012

Permabear Nouriel Roubini is fairly certain that QE3′s effect will be less dramatic than QE2 and QE1. These are all money printing programs that have boosted the US stock market tremendously and added a great deal to banking bottom lines but have not done nearly so much for the larger economy.

Roubini, a prestigious economist and analyst, has written an article, “Hard to Be Easing,” that takes the position that QE3 won’t even have much of an effect on the stock market let alone the larger economy.

It is his perspective that QE3 raises three questions. “Will QE3 jump-start America’s anemic economic growth? Will it lead to a persistent increase in risky assets, especially in the US and other global equity markets? Finally, will its effects on GDP growth and equity markets be similar or different?”

Roubini’s answers are as follows: No, yes and “less perceptible.” Here’s how he puts it.

#1: Regarding QE3 and growth, he states: “But, despite the Fed’s impressive commitment to aggressive monetary easing, its effects on the real economy and on US equities could well be smaller and more fleeting than those of previous QE rounds.”

#2: Regarding an increase in risky assets, he states: “QE3 will be associated with a fiscal contraction, possibly even a large fiscal cliff. Even if the US avoids the full fiscal cliff of 4.5 per cent of GDP that is looming at the end of the year, it is highly likely that a fiscal drag amounting to 1.5 per cent of GDP will hit the economy next year.

#3: Regarding GDP and equity growth, he states: “With the US economy currently growing at a 1.6 per cent annual rate, a fiscal drag of even 1 per cent implies near-stagnation in 2013, though a modest recovery in housing and manufacturing, together with QE3, should keep US growth at about its current level next year.”

He summarizes the effects of QE3 at the end of his article as follows:

In short, QE3 reduces the tail risk of an outright economic contraction, but is unlikely to lead to a sustained recovery in an economy that is still enduring a painful deleveraging process.

In the short run, QE3 will lead investors to take on risk, and will stimulate modest asset reflation. But the equity-price rise is likely to fizzle out over time if economic growth disappoints, as is likely, and drags down expectations about corporate revenues and profitability. 

Our take would be slightly different. We don’t see these easings as forestalling economic contractions. They’re simply slowing down recovery because the system isn’t allowed to cleanse itself.

Roubini is concerned about the so-called fiscal cliff, but we figure politicians will manage to finesse that one. After all, who wants to be named as someone who helped turn a terrible recession into a full-on depression (if we are not there already).

The main point here is that Roubini believes that these easings are reducing the risk of outright economic contraction while also admitting that the economy is still going through a painful deleveraging process. This is the reason that people like Roubini are famous and well-compensated. They can hold two contradictory notions at the same time.

You see, Roubini simply doesn’t want to come out and say that central bank reflating is counterproductive because it props up firms that should be shut down. As long as these firms are still in business, people are leery of investing because they don’t know what groups are solvent and which are not.

Roubini knows this very well because even in this article he writes of deleveraging, which is a code word for allowing the economy to shrink naturally as bad businesses finally go bust. So easings can reduce the risk of outright contraction but as Roubini admits, the economy still needs to finish its “painful” deleveraging process.

So which is it, Mr. Roubini? Is it a good thing for the economy to be “stabilized” – or should the Fed finally get out of the way?


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