Confidence Trap and Growth

On the occasion of th G20-meeting in Toronto, the German Economics minister Herr SchaĆ¼ble said that without restoring confidence it would not be possible to get consumer spending and business investment going. Similar remarks were made by David Cameron and SeƱor Zapatero of Spain. All maintain that confidence is a pre-requisite to get growth going and that, therefore, it was imperative to reduce fiscal deficits. Reducing the fiscal deficit will restore confidence at first. However, reducing the deficit very quickly will introduce a dynamic that may cause the economy to decline - and perhaps depress  consumers demand even further.  It will actually destroy confidence: few businesses are inclined to invest in a shrinking economy. Cutting the deficit too rapidly or too steeply can lead to a confidence trap.

NOTE: A big experiment is now taking place in the UK - the government has cut public spending severely! Will this lead to hardship and, perhaps, social unrest? 

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