Market down, but still swinging

Call it the paradox of the pendulum.
In the face of economic stress, government and individuals alike can fall into the trap of overcorrecting, swinging from one panicked extreme to the other. And every extreme can create a self-fulfilling prophecy, sending the economy deeper into a spiral.

What to do?
University of Virginia’s Robert F. Bruner, dean of the Darden Graduate School of Business Administration, has some ideas about that. (Read more in today’s Charlottesville Business Journal.)
“This is the time to be brave,” he said. “Be brave.”
Every recession has a recovery, and the wise man or woman of today prepares for that tomorrow.
“We will come back,” Mr. Bruner said. “We just don’t know how much more pain is to be endured in the meantime.”

Bravery is not the behavior of the financial system at this time. The federal bailout has poured public funds into banks (more money was injected just last week) in an effort to stimulate lending, which in turn would stimulate business growth. But the system is constricted; funds are not circulating. Financial firms are now in risk-aversion mode, and are holding on to that money.
Who can blame them? Having just lost billions through high-risk loans and earned public contempt into the bargain, financial companies are playing it safe.
Maybe too safe. Unless money starts flowing again through the economy, more bankruptcies are sure to come. This fearful downward spiral of expectations producing reality has come to be called the “doom loop.”

Yet the paradox of the pendulum is that too much lending and spending with borrowed money can overheat the economy, causing price inflation.
A similar conundrum operates at the micro-economic level. It has been proposed to prop up the economy not just through money infusion to lenders, but by putting more money directly into the hands of taxpayers. Mr. Bruner points out that even this strategy faces the same problems as on the macro-level: People take that money, as they did last year’s tax rebates, and either save it or use it to pay down old debt.
Both those impulses are good, and would be excellent in a stable economy. But when that money needs to circulate and stimulate new activity, saving and debt reduction — while perhaps good for the individual — are bad for the economy.

Mr. Bruner encourages individuals and government alike against swinging between extremes.
For the long term, Americans need to improve their financial literacy. “We need to have a deeper appreciation of the inevitable and inexorable behavior of markets. There is no free lunch.” That is, wealth that is built on leveraged speculation — as was the housing market — will collapse when the bubble can rise no higher.
For the future? The simplified message is: Live within your means.

For now, it is: Be brave, and prepare.
And here’s some deeply practical advice from this erudite academician: “When the recovery begins, there will be an incredible vacuum for human talent. Now is the time to increase your human capital. Now is the time to turn off the boob tube, go back to school and get some training in some higher skills.”
The recovery is waiting for you.