Belmont Club

How Long Will the Aspirin Work?

MSN Money says that despite agreement on a debt ceiling deal, the underlying economic problems still remain. “Today may go down as the shortest relief rally ever. The stock market opened sharply higher thanks to Sunday’s debt-ceiling deal between the White House and leaders in Congress, with the Dow Jones Industrial Average ($INDU) up as many as 136 points by 9:45 a.m.”

The Wall Street Journal added that disappointing data in the manufacturing sector, together with a belief that the debt deal would not do enough to slow the march toward unsustainable debt were responsible for the weakness. It was not helped either by the sight of political infighting in Washington.

“It’s a combination of what’s going on in Washington this morning and the bigger picture macroeconomic data,” said Joe Jennings, investment director for the Maryland region at PNC Wealth Management.

There was also bad news from the Eurozone as ” data showed output growth slowing in Germany, France, the Netherlands and Austria, with Italy moving slightly higher but ‘only to a level broadly consistent with stagnation’, according to the Purchasing Managers Index (PMI) leading indicator, compiled by research firm Markit.”

“The breadth of the deterioration in order inflows is striking, with declines in new business seen not only in the periphery but also in the now rapidly-cooling core nations of France and Germany,” [Markit senior economist] Dobson said.

The Spanish Socialists have finally recognized that deep cuts will be needed to save Spain and have dissolved their government so that more conservative politicans can administer the harsh medicine. The Scotsman notes:

The worsening eurozone debt crisis has raised Spain’s financing costs and created fears that it will be next in seeking an EU bailout after Greece, Portugal and Ireland .

It has also made an unwelcome austerity the order of the day for Mr Zapatero.

Increasingly weak, on Friday he announced that the election would take place four months early, having decided in April not to run again and eyeing an expected fall in summer unemployment – an issue that is Spaniards’ biggest worry, due to the tourist season.

Now Asia has struck a “soft patch” as European and US demand declines have weakened the demand for their products.

Asian manufacturing is cooling even as accelerating inflation puts pressure on officials to keep tightening monetary policy, adding to headwinds for the global economy after recoveries faltered in the U.S. and Europe.

Manufacturing in China, Australia and Taiwan weakened in July, purchasing managers’ indexes released today showed. South Korea’s inflation quickened to the fastest pace since March, Thailand’s held above 4 percent for a fourth month and a gauge of Australian prices exceeded the central bank’s target ceiling.

Paul Krugman argues that the last hope ended when the President ‘surrendered’ to the Republican conspiracy instead of doing the right thing, which was spending even more. He compared the practice of slashing spending to leechcraft.

For the deal itself, given the available information, is a disaster, and not just for President Obama and his party. It will damage an already depressed economy; it will probably make America’s long-run deficit problem worse, not better; and most important, by demonstrating that raw extortion works and carries no political cost, it will take America a long way down the road to banana-republic status. …

The worst thing you can do in these circumstances is slash government spending, since that will depress the economy even further. Pay no attention to those who invoke the confidence fairy, claiming that tough action on the budget will reassure businesses and consumers, leading them to spend more. It doesn’t work that way, a fact confirmed by many studies of the historical record.

Indeed, slashing spending while the economy is depressed won’t even help the budget situation much, and might well make it worse. On one side, interest rates on federal borrowing are currently very low, so spending cuts now will do little to reduce future interest costs. On the other side, making the economy weaker now will also hurt its long-run prospects, which will in turn reduce future revenue. So those demanding spending cuts now are like medieval doctors who treated the sick by bleeding them, and thereby made them even sicker.

Well that’s an interesting idea, the only puzzle being that if nations can borrow their way out of debt, why can’t the guy with the overdrawn Visa card? Maybe nations are different. If policymakers bet wrong we may all have to try our hands at leechcraft some day.

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