The uncertainty shock from the debt disaster will cause a double-dip recession

"The potentially explosive combination of Eurozone debt contagion, vulnerable banking systems, and European and American political paralysis has pushed stock-market volatility to levels nearly as bad as the days following the 11 September 2001 terrorist attacks. Nobody knows what happens next. This column reviews research on 16 previous shocks and concludes that today’s uncertainty shock will create a short, sharp contraction in late 2011 of about 1% with a rebound coming in spring 2012.

The US and European debt crisis of the last week have generated massive economic uncertainty. One measure of the economic uncertainty – the VIX index of stock-market volatility – has jumped to levels not seen since the crash of 2008.

Stock market volatility is now so high that it’s reached the level that occurred right after the 9/11 terrorist attack (see Figure 1) – a period of incredible political and economy uncertainty. Other measures of uncertainty are also spiking, like news headlines, and the frequency of the word “uncertain” in press reports (Alexopoulos, and Cohen 2008).

Right now nobody knows what is going to happen next.

Figure 1. Daily US implied stock market volatility (VIX index, commonly known as the “financial fear factor”)

The research says: Uncertainly leads to recessions

I have studied 16 previous uncertainty shocks – events like 9/11, the Cuban Missile Crisis, the assassination of JFK – and the only certain thing about these is they lead to large short-run recessions (Bloom 2009).
When people are uncertain about the future, they wait and do nothing.

• Firms do not to hire new employees, or invest in new equipment if they are uncertain about future demand.
• Consumers do not buy a new car, a new TV, or refurnish their house if they are uncertain about their next paycheck.

The economy grinds to a halt while everyone waits..."

at  http://www.voxeu.org/index.php?q=node/6846