WASHINGTON, DC – Even as the squeeze in interbank lending has started to ease after the rescue of financial systems across the advanced countries, falling economic indicators have sent stock markets tumbling. Pressures on emerging-market countries, which were once thought by many to have “decoupled” from the rest of the world, have intensified as foreign loans are called in and assets sold off.
With fear gripping consumers, companies, and countries worldwide, talk has turned from a moderate advanced-country recession to a major world depression. A sense of despondency has set in that nothing can be done to stop it.
What is going on? Were the measures taken two weeks ago to shore up the financial system simply wrong? Absolutely not. The provision of liquidity, the recapitalization of banks, more uniform deposit insurance across the advanced countries – these were all correct and necessary measures. But they were only the first installment on what needs to be done.
In the advanced countries, the fall in asset values and, more generally, fear of what comes next has shattered consumer and business confidence. Consumption is dropping, and companies are cutting investment. The financial crisis has created a sharp fall in demand, what economists call a “Keynesian recession.”