It is a very delicate moment in economic diagnostics. Is the crisis at a turning point? Is the patient about to recover or is it all a mirage? During the 1991-93 crisis, Norman Lamont, the chancellor of exchequer for UK got a bad reputation by talking up ?the green shoots of recovery? . That sort of talking up is always risky but enough has happened recently to give us a pause.
There have been two interlinked problems since around late 2007. The more dramatic has been the collapse of the financial markets. Starting with the drop in house price growth and difficulties with the subprime mortgages, we had Northern Rock going broke in September 2007. Later the problem moved to America and by September 2008 we already had Bear Stearns taken over by JP Morgan and then Lehman Brothers went. AIG had to be rescued as also Fannie Mae and Freddie Mac. Merrill Lynch, Goldman Sachs and Citibank. There had to be a huge bail out and ordinary citizens of UK and USA got used to the notion of toxic assets.
The other crisis was the drop in employment and output growth. This crisis became big during 2008 and has continued across the world. This is what caused many people to talk of the crisis as the worst in a hundred years and the end of liberal capitalism etc. G20 met in November 2008 and again in April 2009 and it seemed like the whole world was geared up to fight this unprecedented crisis.
But just lately it looks like there may be positive news on the financial front though not yet on the output front. Goldman Sachs has come through with the news that their latest profit figures for the first quarter of 2009 give them the confidence to return the $10 billion they took from the US government. In UK Barclays has declined any help and passed all the tress tests and HSBC has been able to recapitalise itself without government help. More good news has just come from JP Morgan for its first quarter results and from Wells Fargo which survived the meltdown by taking on some banks
Now we get the news from PwC the administrators to Lehman Brothers in Europe?they told the public that Lehman Brothers Europe has more assets than liabilities. It will take time to disentangle the claims but the money is there.
What is going on here? It is possible that while things are bad the short run story has been ruined by the lack of confidence rather than any real or substantial shock.
The financial sector had overexpanded in the Anglo-Saxon countries and its bad habits about risk taking contaminated the Continental European banks as well. But once the collapse in house prices had been absorbed and those undervalued assets sold, the bottom had been reached. The trading income of the financial sector is buoyant as the Goldman Sachs story tells us. So, if the incomes of the financial sector holds up, the disposal of assets can be orderly since these firms will be able to raise money themselves to recapitalise.
Indeed, this is how it should always have happened. I have been doubtful whether any banks should have been rescued. Since this sector more than anyone else is one where markets should be expected to work since all the players apart from depositors are or should be fully aware of the risks they are taking A lot of money was spent by governments to recapitalise these banks often undeservedly.
Now it looks as if we are perhaps beginning to see the unwinding of the banking problem. It will be still six or nine months more before we are sure but it looks like there is now a market-led way back to recovery and governments may even get some of the money back and the public debt situation should also be easier than expected. If so, interest rates will not shoot up when output recovery starts.
When that will happen is hard to say but what we see from the Chinese data for the first quarter of 2009 is that the growth rate of 6.1%, is quite a sharp drop for China but not the end of the world. Output and employment recovery will start in Asia by restoring the growth rate of China and India by the third quarter and that will spark the recovery in the West . The fiscal packages may be working by then in US and UK as well.
Not yet the time to break open the champagne bottle, but this may yet turn out not to be worse than the Great Depression or even the 1970?s stagflation.
The author is a prominent economist and Labour peer