It's about confidence, stupid

On the economic front there is good news and bad news, but it is hard to escape the belief that the bad news is winning out.

Optimists can take the poor July employment numbers with a pinch of salt. Summer job numbers have caused Statistics Canada a blinding headache since many education authorities decided to place their teachers on contracts that end in June and begin again in September. Technically, this makes thousands of teachers unemployed during the summer vacation, which thoroughly distorts the picture.

Those same optimists can take solace that all but 20,000 jobs lost during the recession have been replaced and the key manufacturing sector added 28,000 jobs last month, the largest in two years.

But there the good news pretty much stops. Canada's economy grew at an annual rate of only two per cent in the second quarter, which is way below the rate of increase usually seen in the early stages of a recovery. House sales slowed across the country in July despite near-record low mortgage rates, and Canada's exports to Europe slipped by seven per cent in June as European economies slowed.

The Bank of England has cut its forecast of economic growth and, in China, growth continues to slip. With a very fragile economy in Europe and a slowing Chinese economy, two of the big engines of the world economy are travelling at half speed. That leaves the United States -- the most important influence on Canada -- to help pull the world away from the recession that deepened with the financial crisis in November 2008.

Unfortunately, the recovery in the United States is about as weak as it can be without stalling altogether. Americans aren't spending -- except on the iPad and other tech toys -- and the slowing of the Chinese economy, in particular, means that exports are not going to pull the U.S. economy out of its funk. Imports from China to the United States in June exceeded American exports to China by the biggest margin in 20 months.

So now the argument between the economic optimists and pessimists is whether the recovery will continue, albeit in a shaky, fragile way, or whether we are in for a "double-dip" recession.

The biggest fear is whether that double dip will be accompanied by a Depression era wave of deflation. Policymakers' big worry has been whether the effect of massive government spending programs and extremely low interest rate policies of the world's central banks would result in uncontrollable inflation as economies recovered.

It's a reasonable fear. If governments pump money they don't have into economies and borrow to finance their budgetary deficits then, in due course, rising prices will result.

But rising prices are driven by demand and to get demand, you need high employment and high levels of business and consumer confidence.

All these things tend to work in tandem. In the United States right now, those conditions don't exist. Unemployment remains at a stubborn 9.5 per cent and, unlike in Canada, jobs lost during the recession are nowhere near being replaced.

The effect of falling prices can be devastating. If consumers and businesses expect prices to fall, they hold off spending. That delay causes businesses to cut prices to encourage sales and so prices fall further, profitability erodes and bankruptcy threatens.

Is it happening? Not yet. But there are warnings. American retail prices have fallen slightly for three months and hourly average wage rates slipped marginally last month. The concern that the U.S. is teetering on the brink of the double dip is the background to the Federal Reserve's decision this week to keep interest rates at record lows and to keep money flowing into the system.

A majority of economists believe that while there is every cause for concern, the worst we can expect is a continuing fragile, halting recovery and that governments and central banks have learned enough and are now smart enough to avoid a slip into another version of the 1930s. But as no one really knows what drove the Great Depression, there are no guarantees.

The way not to slip back into recession is for governments, business and you and I to believe it won't happen. In this recovery, psychology is everything. If we believe that the recovery is underway, we will spend, buy new houses, cars, iPads and washing machines and the occasional luxury food item. If we lose confidence, worry about our savings and our jobs, then we'll help push the economy into another downturn. The American central bank bolstered confidence this week. Let's hope it sticks.

Nicholas Hirst is CEO of Winnipeg-based television and film producer Original Pictures Inc.

Republished from the Winnipeg Free Press print edition August 12, 2010 A11