Elections are a time for hope and optimism.
Of course, we cannot disregard the $80 trillion gorilla in the room, representing the sum of questionable assets that still clog the global financial system. Regardless, though, we all wish President Elect Obama well in contributing to the solution of this economic mess. Indeed, our individual financial futures depend on his success!
We have discussed the importance of market psychology on our collective economic health. Our perceptions of the economy are crucial in the most critical of times. Fortunately, such critical times occur only once a century. Unfortunately, that time is now.
It is our sense of hope and faith in the U.S. economy that induces us to purchase a new car or a new home, or to invest in a mutual fund or initial public offering. Without that hope and faith, we hunker down, and our spending declines significantly.
This hunkering down is problematic. Our thrift in such times creates a paradox. Of course it is quite natural for us to be thrifty and to postpone consumption when times look bleak. At one level, to do anything else might seem irresponsible. However, our postponed consumption and investment, and the postponed investment of business owners at times like this, means that producers of cars and builders of homes will necessarily lay off workers en masse.
These mass layoffs in two very significant sectors of our economy reduces gross domestic product, giving us an even greater sense of gloom. And the consumption sacrificed by unemployed workers, unable to spend because of their loss of income, reduces demand for U.S. goods and pushes the GDP down still further.
These two factors of reduced spending induce subsequent rounds of layoffs, reduced consumption, and greater pessimism. The initial doom and gloom is multiplied throughout the economy. A while later we conclude that our fears were indeed warranted. Our gloomy predictions became a self-fulfilling prophecy.
Monetarists call this the Paradox of Thrift. It is our lack of confidence in the economy that significantly undermines the economy, and in turn reinforces our lack of confidence and our further thrift.
We see that phenomenon in the stock market, too. The severe shots the market has taken of late have forced many small investors to jump on the bandwagon and sell, along with everybody else. This selling brings the market further down, reinforcing our false wisdom. The profit fundamentals for companies may have changed very little. The downward pressure on stocks may eventually have a negative effect on profits if it induces us all to worry more and spend less. However, the substantial declines in the stock market are very much a cause, rather than a symptom, of the resulting economic crisis.
The free market trips over itself in another way, too. We had mentioned that layoffs occur when spending falters. What if we instead simply agreed to take a pay cut of 5 percent rather than layoff 5 percent of our workers? If we did so, the workforce would continue to be employed, the GDP would not decline, and the products we normally purchase would continue to be produced.
Our income to purchase would decline somewhat, and product prices would likely decline, too, if demand is not strong. However, in real terms, our economy would not take the immediate precipitous drop it does when there are massive layoffs.
Of course, the goal of employing the unemployed to ward of a depression is not new. President Franklin Delano Roosevelt put this strategy into place with the New Deal programs of the Works Progress Administration, the Civilian Conservation Corps and the Tennessee Valley Authority. One might ask, though, why government had to sweep in to solve a problem that began with investors and fearful consumers.
Let's use an example from our own lives. If you work in a 20-person office and the management asked you to find a way to shave 5 percent off the labor costs, what would you do? If your workforce was a democracy, you would likely decide to lay off one employee. I might even predict a secret ballot on this proposal would receive 19 votes in favor of this strategy, with only that poor new hire with no seniority voting for the alternative proposal that everyone take a 5 percent pay cut. It is human nature to try to individually indemnify ourselves against the pain of a downturn, even if that decision collectively causes the downturn to worsen.
This gets us back to the leadership of our new economic commander in chief. If we all understand the reasons for the downturn, and if we realize that our own paradox of thrift and our hope to insulate ourselves from a shared experience is precisely what contributes to a severe downturn, we may be willing to do our part. Understanding human nature for what it is, though, suggests that some economic leadership from our new president will not be sufficient. We must also see government policies modified, and programs put in place, that give us a sense that our sacrifices will make a difference. Without a shared sense of hope and faith, it is every person for his or her self. And we all see what that has done in this decade of excesses.
Fortunately, times like these are extremely rare. Unfortunately, strong economic leadership that goes beyond politics is equally rare. We can only wish and hope that we find ourselves with the right leadership for the right time. Our future depends on it! Good luck President-elect Obama!
Elections are a time for hope and optimism.
This Week's Circulars
81, of Cadyville, passed away, January 15, 2021. She was born March 4, 1939, daughter of Loren and Theresa Darrah. Services will be private for the family. Arrangements have been entrusted to the R.W. Walker Funeral Home, Plattsburgh.
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