Wednesday, August 5, 2009

Creating Bubbles

As Paul Krugman, the Nobel winning economist said in 2002:

To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble.

Well from housing bubble to auto bubble... the "Cash-for-Clunkers" program will do just what Krugman prescribed for the housing market back in 2002. By injecting government cash (my money) directly into buying-based incentives, the government sent a signal to car buyers: during a certain period we will be giving you money to buy a car. So what did customers do? They timed their purchases more effectively. Some waited until the incentive period to make their next car purchase and some moved up their car purchase to an earlier point than they would have naturally purchased their vehicle. In so doing, the government has created a bubble. When this incentive period is over (if the extension passes), there will be a return to lower-than-baseline automobile purchasing rates because the artificial bubble could not support itself.

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