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From Pessimism to Fear

05/23/2012

Last December, the editor of Inside Business called me, asking for the one thing economists fear the most . . . an economic forecast.  It was published January 15th of this year, when I predicted “2012 will be an emotional roller-coaster.”  Last month, Wall Street was bullish, before turning bearish early this month.  When I watched the European markets open early this morning, I could tell the attitude had changed from pessimism to fear.

I also predicted the U.S. would not enter a recession, unless Europe pulls us into one.  I still believe that!
I predicted the European Central Bank would have to deal with their problem by mid-year.  As I write this, there is a dinner meeting with the leaders of 27 nations to resolve the European debt crisis.  While the best solution would be for the EU to issue Euro-bonds, it will not happen, and even if it did, it would take too long.  The best plausible outcome is authority to invest capital directly into banks, like the U.S. did with TARP.  We’ll see . . . I just hope we see something soon!
Another prediction was that the Dow would approach 10,000 but not fall below that level.  I still believe that is possible, if the EU doesn’t resolve their crisis.  If that is the case, why wouldn’t I sell everything right now and buy them back at the bottom?  One, market timing is almost impossible and extremely risky.  Contrary to popular belief, the stock market is very emotional (read:  irrational).  It is always difficult for rational people to predict irrational events.  Two, the U.S. is spring-loaded for growth and could move up suddenly.  If Europe finds a way to put capital into banks tonight, the Dow could easily rise 300 points tomorrow.  
The Dow really wants to rise!
However, if you believe the leaders of the European Union are too irrational to resolve their crisis, you also probably believe the leaders of the United States are too irrational to keep our economy from going over the Fiscal Cliff at year-end;  when the Bush tax cuts and payroll tax cuts expire, plus sequestration of Federal spending begins.  Some analysts predict that will cause a 4% minimum drop in our GDP growth rate, which is only 2%.  I suspect the drop will be more than 4%.
If Europe gets its act together, if Congress gets their act together, and when we get past the Presidential election (no matter who wins), uncertainty will be vastly reduced, which will drive the stock market way up, at least a thousand points, I expect.
Greece can still generate fear, but it cannot do the damage it could have done a year ago,   The market has adjusted to the possibility of Greek default and removal from the EU.  This will not be a “Lehman” moment, when the financial dam broke in September of 2008.  If we go off the Fiscal Cliff and our GDP growth rate drops 4%, that is still less than the 6% drop we suffered in 2008-9.
My point is this — even though fear is the predominant emotion on Wall Street right now, capitalism will still survive, and, by the way, so will the United States of America!

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