Monday, December 7, 2009

Financial conditions are almost back to normal

Here's an updated chart of financial conditions as measured by Bloomberg. (See more background for this here.) Note the spectacular improvement in this index over the past year. Financial conditions (e.g., credit spreads, implied volatility, interest rates) today are almost back to what might be considered "normal." The financial markets have undergone a great healing process this past year, thanks in part to the Fed's quantitative easing, but thanks also to the natural processes of adjustment that follow any crisis. The recent recession was unique in that it was largely caused by a financial crisis—the prospect of a global financial meltdown, which in turn caused a dramatic decline in economic activity around the world. So to the extent that financial conditions have reverted to normal, the source of the economy's slump has been removed and things should get materially better.

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