Q&A on the economy

Excerpts from an online reader chat with columnist Steven Pearlstein, who discussed the Fed's decision to cut interest rates, Wall Street and the global markets.

Q: Do you anticipate lower prices this year for consumer goods and services in response to the financial turmoil, or is the high price of oil going to keep prices up?

A: The big drivers to inflation right now are energy and food, the prices for which are set on global markets. A global slowdown should take some of the pressure off those, so last year's increases are unlikely to be matched. Since inflation measures a rate of change, I doubt inflation from those factors will be as high as last year.

Prices of some things will come down, like air fares and hotels and the price of homes. But the trouble is that workers are demanding pay raises to cover the inflation of the last two years, and if they get it — a big if — then that would trigger yet more price increases in many sectors, and that could change the inflation psychology. So it's a mixed picture.

Q: What can the "average" consumer do to weather this recession?

A: Basically, just make sure you have some savings and keep it liquid and safe, and pay off credit card balances as best as you can. ... If you don't lose your job, you shouldn't notice it much.

Q: Have you heard any rumblings about whether stable-value funds may be vulnerable to fallout from the subprime mess? Though they are a generally conservative staple in 401(k)s, their investments often do include mortgage-backed securities, among other things.

A: It's possible but ... increasingly unlikely. That's because most of that asset-backed short-term paper was issued by spinoffs of big banks that have now agreed to step in and assume responsibility for these entities (maybe you've heard of them: SUVs). And by taking these obligations onto their own balance sheet, they essentially assure that the short-term paper will be paid off, which is why they had to take big write-offs to account for the difference between the par value of the paper and the market value, today, of the assets that secured the paper

Q: What do you think will happen to the dollar in light of trade imbalances and budget deficits?

A: It's going to be complicated over the next year, the dollar thing. The dollar generally drifts down with interest rates, but not if interest rates elsewhere also drift down and economic activity slows with it. On the other hand, the trade deficits and budget deficits are likely to rise, which would be bad for the dollar. On the other hand, if oil prices and gold prices continue to moderate, that would be good for the dollar.

Get my point? It's really hard to predict currency movements over the short and medium term. Long term, the dollar probably still has a way to go, down, before it is priced against most currencies, to reflect the lowered standard of living we are going to have to get used to as a country.

Q: Are the Asian/European markets ... part of a speculative bubble that is beginning to show signs of popping as a result of weaknesses in the American markets? ... What will it mean for foreign investment in the U.S. market?

A: Not much of a bubble in Old Europe, except for property and stock bubbles in Ireland and Spain, which are already being unwound. Not sure about eastern Europe. Russia, definitely yes. There are big property and stock bubbles in China. I doubt any of these bubbles survive the current financial shakeout. Those foreign investors you speak of have tons of dollars and are getting more every day, so if they want to invest in the United States and in its banks, they will have the wherewithal.

Q: With upward of 1.5 billion people, China seems destined to achieve the status of eventually having the world's biggest economy. What is your opinion of the United States' continually rising national debt and the willingness of other nations to finance this debt?

A: To say a country has the biggest economy doesn't really have much meaning. If I cared about being rich, I'd rather live in Switzerland than China. What matters is GDP per person.

As to other nations financing our debt, many of them don't have much choice if they want to keep their currencies roughly pegged to ours, which is what the Chinese, other Asian export countries, and the Middle East oil countries all do. They aren't just going to put the dollars under the mattress. And if they aren't going to exchange them for their own currencies, then they have to buy dollar-denominated assets. Since Treasury bonds are the safest and most liquid, they'll continue to buy those, and that is how they finance our current account deficit, in significant part.

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