Celebrated Irish economist James O'Sullivan, 45, has some welcome news for those weary of the doom and gloom economic headlines broadcast on the news and in the papers for months now. We're in a recession, O'Sullivan says, not a depression. O'Sullivan, who was born in New York and raised in Ballycumber, Co. Offaly, works at UBS USA in Stamford, Connecticut, the global financial services firm, with a team led by chief economist Maury Harris. Last week Market Watch, the business news website, presented the UBS team with its forecaster of the year award for consistently providing the most accurate economic forecasts over the course of 2008. At UBS, O'Sullivan has been fairly pessimistic about the economy for more than two years now, correctly foreseeing that the collapse of the housing bubble would have a huge impact on the rest of the economy. Today he's still pessimistic, but he isn't tearing out his hair. "What we've seen so far is a slight decline in GDP," O'Sullivan told the Irish Voice. "We could end up getting a 3% decline - or if you're really pessimistic maybe four. "But no serious observer would say this is anything close to the Great Depression. You do hear that language that this is the worst financial crisis since the Depression. I think that it's one point of view. "But to extrapolate from that and say this is the greatest financial crisis since the Depression, therefore we're going to have the worst recession since then, does not necessarily follow. We've also seen the most dramatic policy response that we've ever seen from monetary and fiscal policy." The current recession was relatively mild in the first eight months of 2008, but then weakness intensified dramatically. Significant further weakening over the next few months is highly likely, says O'Sullivan, with Gross Domestic Product contracting and unemployment surging, as the economic pain spreads from housing to Wall Street to Main Street. Uncertainty is the main problem at present says O'Sullivan, but once President Barack Obama settles in to the White House and the big decisions about fiscal stimulus and regulatory changes are made, much of the uncertainty will fade. "The Federal Reserve has acted very aggressively. They've cut the overnight interest rate that they control - the Federal Funds Rate - to virtually zero," O'Sullivan said. "In the meantime they are dramatically expanding liquidity in the economy by going out and lending money. They've dramatically expanded their own balance sheet, lending to banking and non-banking companies." Right now the recession is "feeding on itself." To some extent, weakness is always self-perpetuating, with weaker spending leading to weaker hiring leading to weaker spending, and so on. That downward momentum is typically compounded by increased risk aversion in financial markets. But at some point, O'Sullivan says, the cycle is broken, and financial market participants start to respond to public policy measures and private sector adjustments, anticipating improvement ahead. Pessimism peaks and markets and confidence start to recover. The economy follows, with a lag. Said O'Sullivan, "When you think about this whole crisis the sequence has gone from housing to Wall Street to Main Street. As the bubble burst in housing that not only drove down the housing sector itself through home sales plunging, it affected households because of the drop in wealth, and that lessened peoples abilities to tap that wealth through home equity extraction. "In addition, a lot of the banks had exposure to mortgage bonds, and as delinquencies went up the bank losses went way up. As banks lost money they lost capital and had to cut back on lending. Now we have this credit crunch that's under way. That's the key transmission sequence to how it got under way." The Federal Reserve will do much more to repair the credit markets, O'Sullivan argues. "Consensus has come around the idea that we need another big stimulus package,' he says. "And already, some markets are beginning to thaw. As banks stopped lending to the riskiest borrowers, they also stopped lending to the worthiest borrowers. "Gradually, bankers will regain their nerve, likely helped by changes in the Treasury Department's Troubled Asset Relief Program." The government will also need to do more to reassure consumers that home prices will eventually stop falling. A moratorium on foreclosures, for example, would give Washington time to make it easier to modify mortgages. "A big stimulus package will probably start to kick in by the end of the second quarter of 2009. The next few months will continue to show a recession - we haven't peaked yet in terms of the unemployment rate - but I think as the year progresses we will start to see stabilization by mid-year and modest growth by the second half of the year, but I think the recession could end by mid-year," O'Sullivan feels.
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