Two Cautionary Tales about How to Respond to the Economy

Unfortunately, they lead in opposite directions. First, Presidential Economic Adviser Christine Romer writes in the Economist:

The urge to declare victory and get back to normal policy after an economic crisis is strong. That urge needs to be resisted until the economy is again approaching full employment. Financial crises, in particular, tend to leave scars that make financial institutions, households and firms behave differently. If the government withdraws support too early, a return to economic decline or even panic could follow. In this regard, not only should we not prematurely stop Recovery Act spending, we need to plan carefully for its expiration.

In the Financial Times, one-time genius Alan Greenspan has a different perspective:

The US is faced with the choice of either paring back its budget deficits and monetary base as soon as the current risks of deflation dissipate, or setting the stage for a potential upsurge in inflation. Even absent the inflation threat, there is another potential danger inherent in current US fiscal policy: a major increase in the funding of the US economy through public sector debt. Such a course for fiscal policy is a recipe for the political allocation of capital and an undermining of the process of “creative destruction” – the private sector market competition that is essential to rising standards of living.

What to do? Listen to Romer, who has no track record on these matters, or go with Mr. Greenspan and his less than stellar performance? Beats me.

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