ANY doubts left in investors’ minds that the crisis is over seem to have been blown away by the gales of euphoria that swept through the markets last week. Many people will see these few days as one of those key moments in the global economy’s return to normality.
The first came in March, when the boldest speculators took the view that the crisis could not get any worse. Confidence began to return.
The second was about a month ago, when we started to get hard economic data pointing to a turnaround: house prices rising, retail sales recovering and gross domestic product up in several big economies in the second quarter. That brought in more solid investors.
Last week’s turnaround was triggered by the central bankers’ annual think-in at Jackson Hole, Wyoming. Central bankers carry more credibility than politicians because they have their hands on real money, and if they sound optimistic, it is usually with good reason. They gave the green light to investors around the world.
Or did they?
Newspaper headlines certainly gave that impression. But study of the documents shows a more cautious view. US Federal Reserve chairman Ben Bernanke devoted 95% of his speech to an analysis of the handling of the crisis, and almost as an afterthought said “we are only now beginning to emerge” from a deep recession. Hardly a ringing endorsement. Jean-Claude Trichet of the European Central Bank said talk of a return to normality made him “feel uneasy”.
In particular, the central bankers dwelt on the work that still needs to be done to clean up bank balance sheets, remove the props from under shaky banks, and get the public finances back in order. All that could take years.
The central bankers are right to put a damper on expectations because if they don’t, nobody else will. But precisely because they always seem so gloomy, any bullish statement they make shines like a gleam of light in the dark.
The major question now is whether economic recovery can proceed while so much work remains to be done.
The markets seem to think so. For one thing, confidence is returning, and that is good news as this was largely a crisis of confidence in the first place. For another, governments will bend over backwards to ensure banks make credit available to fuel recovery. That means there will be no early withdrawal of guarantees and other support for banks.
And for a third, it also became clear at Jackson Hole that central banks have no intention of raising interest rates soon. Important figures such as Bernanke and the Bank of England’s Mervyn King said they did not see any signs of incipient inflation. The “output gap” — the difference between what an economy can produce and what it actually produces — is still too wide in all the main economies.
Against that, though, the strength of the recovery will always be in doubt so long as the banking system is not back to full health and government deficits remain huge. The structural adjustment needed to get both these right will be long and difficult.
As one Jackson Hole participant said: “We’ve got to get the consumer back.” Ultimately, demand will have to come from the man in the street. That could take a long time too. Laden with debt, cowed by the crisis, the consumer will keep a tight hold on his purse strings.
But so long as recovery continues, even if weak, it will make the job easier by strengthening the banks and boosting government revenue, which in turn will fuel confidence. The feedback loop could become positive, instead of negative as it has been for a year.
There will still be moments of doubt, when economic statistics disappoint or another big company goes belly up. But almost exactly two years after the crisis started, the grounds for believing we are past the worst seem to be firming up, and we can look forward to a more cheerful Christmas four months from now.
Lascelles is senior fellow of the Centre for the Study of Financial Innovation in London, and a former banking editor of the Financial Times.