Koo Says Maintain Fiscal Stimulus to Avoid Double Dip

Governments must maintain fiscal stimulus measures to prevent their economies from sliding back into recession, according to Richard Koo, chief economist at Nomura Research Institute Ltd. in Tokyo.

“Political momentum all around the world now is to try and reduce budget deficits,” Koo said in a speech in Johannesburg today at a function hosted by Nedbank Group Ltd. “If you try to reduce budget deficits, we’ll enter the double dip.”

Governments in the euro zone have stepped up efforts to reduce their fiscal deficits below the European Union limit of 3 percent of gross domestic product after the Greek crisis earlier this year eroded investor confidence in the 16-member bloc. President Barack Obama is also facing criticism from Republican rivals who argue his administration’s $814 billion rescue package that was aimed at pulling the world’s biggest economy out of last year’s recession hasn’t worked and was too costly.

“This is no time to cut budget deficits,” said Koo. “This is a different disease -- this is not a normal recession by any stretch of the imagination.”

The U.S. and Europe are in a “balance-sheet recession” in which households and businesses are focused on repaying debt used to purchase assets prior to the financial crisis that are now worth less than the amount owed on them, said Koo. That has reduced consumers’ appetites for borrowing leaving government as “the last borrower standing” that is able to finance spending in their economies, he said.

Bond Yields

Record-low bond yields in the U.S. and Europe, which have reduced government borrowing costs, “are the market’s way of saying this is the time to borrow money,” said Koo. “The market is saying if you have highways or schools to build, do it now.”

Benchmark interest rates of near zero in Japan, the U.S. and Europe have not boosted those economies because the private sector is focused on repaying debt rather than borrowing money to spend on “maximizing profit,” said Koo. That means fiscal stimulus must be maintained by government until private-sector balance sheets are repaired, he said.

“When the private sector is shell-shocked into not wanting to borrow money, interest rates can stay low for a lot longer than market participants expect,” Koo said.

Koo’s comments follow similar a statement by Nobel Prize- winning economist Joseph Stiglitz who today said the European economy is at risk of falling back into a recession as governments reduce spending to lower their budget deficits.

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