Tuesday, March 18, 2008

The Shadow Economy and the Real Economy

It's important to make distinctions between the troubles in the markets and the equally bad troubles in the real world.
Shadow problems: precarious, overcomplicated and interconnected investments like mortgage-backed securities; globalization of markets increases volatility.
The problems that directly affect both: overconfidence in housing prices, overreliance on credit.
Real-people problems: stagnant wage growth, increasing instability in job market, lack of health benefits, rising cost of education, deteriorating infrastructure, environmental and resource degradation, inflation in energy and food costs.
From How the World Works:
" The exotic troubles experienced by Wall Street's investment banks right now are a direct consequence of the housing bust and the subprime collapse and all the funny-money machinations with complex financial instruments that have now definitively been proven to be fool's gold. How that distress intersects with high oil prices, high food prices, increasing stress in labor markets and other economic ailments much more familiar to the working man and woman is a narrative whose plot is just beginning to thicken."

One aspect of the narrative is that unfortunately, rich people's problems tend to get more attention, because, as Krugman puts it, "When push comes to shove, financial officials — rightly — aren’t willing to run the risk that losses on bad loans will cripple the financial system and take the real economy down with it."

Krugman again (last week):
I used to think that the major issues facing the next president would be how to get out of Iraq and what to do about health care. At this point, however, I suspect that the biggest problem for the next administration will be figuring out which parts of the financial system to bail out, how to pay the cleanup bills and how to explain what it’s doing to an angry public.

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