A Fork in the Road for 2010

"For 2009 was extraordinary not just for how output fell, but for how a catastrophe was averted."

-"The Great Stabilisation," The Economist, December 19,2009

The U.S. economy entered 2010 in a murky fog of high unemployment, ballooning federal deficits, and a momentous election year. Improvement in the economy will be a steep uphill climb against a towering wall of uncertainty surrounding national health insurance reform, cap and trade energy legislation, and an "exit strategy" for the Federal Reserve ultra-loose monetary policy actions over the past two years. Moreover, the road to recovery will be filled with potholes and speed bumps that should keep economic growth on a choppy trajectory that is anticipated to under-perform relative to the past two recoveries.

The primary focus of the 20 1 0 recovery will be job creation, with some 15.3 million of the nation's labor force unemployed, not to mention several more million who are underutilized or discouraged and not counted in the official tally. With a mean duration of unemployment at 25.1 weeks, an historical high, and the ratio of the number of unemployed relative to job openings at a painfully high 6 to 1, turning around the job market will be very difficult. Based on the two previous recession recoveries, it is estimated that payroll employment will not reach its pre-2007-2009 recession level until the summer of 2012.

To a large extent, the financial crisis of the past two and a half years has simply morphed into a long-term government debt crisis with government bailouts and stimulus spending. The Federal Reserve's (FED) ultra-easy monetary policy actions haven't translated into more business and consumer lending, and there is growing concern that the FED will stay "too loose for too long," reigniting another asset-pricing bubble that would lead to the much-feared double-dip recession scenario. Another economic concern about the Fed has many economic observes asking the question: Has the Fed subordinated inflation fighting, i.e., exploding the money supply, to helping the government bail out corporations and finance the federal deficit?

Even now, some two and half years after the financial crisis began, policymakers are still talking about the "normalization" of credit markets, re-regulation of the financial sector, and the possibility of another round of stimulus spending.

The following four...