Confidence is returning to most credit markets, consumer spending is likely to rebound for some items (autos and housing repair are leading contenders), and firms in the US are starting to sound more optimistic. On NYT.com’s Economix yesterday, Peter Boone and I suggested that we are out of the panic phase of the crisis – in large part because the US fiscal stimulus has reassured people worldwide, but also because President Obama has had a broader calming effect.
Today, the Congressional Budget Office is pointing out that it would be premature to congratulate ourselves too much (disclosure: I’ve joined the CBO’s Panel of Economic Advisers, but none of the information here comes from them). As you likely know, the administration is proposing to lend $100bn to the IMF, as part of that organization’s increase in resources following the G20 summit. Peter Orszag, head of OMB, argued that there was zero probability of this money being lost, so $100bn should be “scored” for budget purposes as $0bn – which is how this kind of transaction has been handled in the past. As the IMF likes to say, it is “the lender of last resort, but the first to be repaid.”
After considerable back and forth, the scoring issue was refered to the CBO. The CBO has reportedly decided there is a 5 percent probability of default by the IMF. This is an extraordinarily important statement. Most informed people just assume that the risk of IMF default is zero, because that would essentially constitute a complete breakdown of the global economy and payments system. But nothing is zero probability, particularly in a world of massive financial panics, incipient protectionism, and improvised global governance.
We can discuss if 5 percent is too high or too low; the CBO details are not out yet, so it’s hard to know exactly the time scale they are thinking about – my guess is 5 years. In any case, this estimate tells you that – even with the increase in IMF resources to close to $1trn, which will go through if the US approves this $100bn loan – the CBO thinks (a) the crisis is not over, and (b) there is a nonzero probability that the entire global system breaks down. Take this seriously.
Our point yesterday was: don’t throw another fiscal stimulus into the mix at this point, even the IMF – which has become a strong advocate of discretionary fiscal policy under some circumstances – is saying that it will not speed the recovery much. Save the fiscal space for further stimulus for when you might really need it, i.e., the unlikely, but possible, confluence of circumstances that would constitute another serious panic phase.
By Simon Johnson