Spending, Banking Health May Indicate Recovery

A consensus is emerging that the global economy is close to bottoming out and that the beginning of a recovery should be evident later this year. The health of the U.S. banking sector, however, remains an issue of contention.

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The tough economy makes it even harder to pay for changes in health care. And the administration got a reminder of that just yesterday, when it's estimated the federal budget deficit grew even larger. Economists and bankers are reaching consensus that an economic recovery could start later this year. Still, they're not sure the banking crisis is really over, and the experts disagree over whether recovery is likely to be quick or painfully slow.

Here NPR's Tom Gjelten.

TOM GJELTEN: The dispute over what will happen with the global economy in the next year is partly a debate about what happened last year. One theory is that people simply got scared. They saw the markets tank and suddenly stopped spending. The speed at which money was moving through the economy slowed way down. Economists call this the velocity of money, how quickly a dollar gets spent again after it's been earned. So people got nervous and money velocity declined.

Brian Wesbury, the chief economist at First Trust Advisors in Chicago, says it was this panic reaction that sent the economy off a cliff. He's an optimist about the recovery.

Mr. BRIAN WESBURY (First Trust Advisors): The thing about a panic is that it can end very quickly, especially when the Federal Reserve is putting lots of new money into the system. And so if a panic ends, velocity starts to come back. You could see a very strong bounce in the economy, and that's kind of what I'm suggesting people should be on the lookout for.

GJELTEN: Another view is that the origins of the economic crisis were in the banking system, so there won't be much of a recovery until the problems in the banks are sorted out. The Federal Reserve evaluated the strength of the biggest U.S. banks with its stress tests, the results of which were announced last week.

Critics say the government's regulators understated the seriousness of the banks' problems. This idea even made it to "Saturday Night Live." Will Forte played Treasury Secretary Timothy Geithner, explaining to the nation that a plan to grade the banks pass/fail was dropped in favor of a pass versus pass with an asterisk.

(Soundbite of TV show, "Saturday Night Live")

Mr. WILL FORTE (Actor): (As Timothy Geithner) This seemed less judgmental and more inclusive. Eventually, at the bank's suggestion, we dropped the asterisk and went with a pass/pass system. Tonight I am proud to say that after the written tests were examined, every one of the 19 banks scored a pass.

GJELTEN: Of course, if fear has been driving the economic downturn, maybe it's not so bad the government gave the stress test findings a positive spin. It reassured people when they needed to be reassured.

Brian Wesbury says he understands why the government wanted to assess the U.S. banking system, but he has mixed feelings about the stress tests.

Mr. WESBURY: There is this fine line that the government has to walk, because you don't want to scare people more. At the same time, you want to help things, but there's even some serious questions about whether these stress tests should have been done in the first place.

GJELTEN: When the government gives banks a break, not holding them to rigorous standards, it's called forbearance. The U.S. government did it during the savings and loan crisis in the 1980s. The idea was to help the thrift institutions recover.

But Simon Johnson of the Peterson Institute for International Economics is not convinced it's generally a good idea.

Mr. SIMON JOHNSON (Peterson Institute for International Economics): The big forbearance that was done in and around thrifts, for example, led to further bad behavior and losses and a much more costly cleanup eventually. It doesn't mean that forbearance can't work, but most of the evidence suggests it's a risky route to take.

GJELTEN: If not being tough enough on the banks means you just postpone their day of reckoning, it could be you're also postponing the recovery. That's basically Simon Johnson's view. He's mostly a pessimist about the economy, though he does agree it was a good thing to ease people's fears and he's open to the idea that the economy has reached a bottom.

Mr. JOHNSON: I'm very glad that they ended the panic, and I think that's very good. I still think we're going to have a struggle to recover. We are in a phase where it's unclear exactly what happens next.

GJELTEN: The Obama administration is taking a positive view. As part of its budget assumptions, the administration yesterday projected that the U.S. economy will be growing at a 3.5 percent annual rate by the end of this year.

Tom Gjelten, NPR News, Washington.

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