There has been significant talk about uncertainty driving the poor recovery. There has been more work in trying to measure this uncertainty which is very useful. However, the type of uncertainty may have more to do with future policy choices. Another variation on this uncertainty theme is that there just is policy paralysis given there are no new ideas on how to solve the crises being faced.
It is well known that the current slow growth is a direct result of a financial credit crisis and not the normal inventory overhang often seen in business cycles. A financial crisis just takes longer to work-out and is not subject to the same responsiveness to policy. For some this requires a purging of bad debt. There is agreement that this has to occur but the problem is determining who will feel the pain of the purge. This creates policy paralysis because there is not a clear solution.
Policy paralysis also leads to political brinkmanship. Each party wants to hold onto existing ideas and not change. They hold onto existing ideas because there is not a new solution that has been presented by either party. We have traditional Keynesian policies on the one hand and variations on classic economics of purging bad debt on the other. There has to be a new solution. Unfortunately, reviewing the economic literature, I am hard pressed to find any solutions. Consequently, there is a continuation of the same and no movement.
This leads us to the fiscal cliff. The existing debt plan cannot last forever, so politicians are willing to take the economy to the fiscal cliff in order to avoid any hard choices with policies that are viewed as suspect. The fiscal cliff will require compromise and action, but we are not there yet.
Market will move sideways until we move closer to the fiscal cliff. We will see some movement in the EU given the recent elections, but the real test of the fiscal cliff will come after the US election. While we wait do not expect much market activity.
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