Rather than being the first of several negative quarters of economic growth, we expect this will be a temporary capitulation to the credit crunch, with almost all of the economic losses postponing economic activity into what will turn out to be a healthy period of growth in the second half of 2009. To be precise, we expect real GDP to be flat in Q1-2009 but then grow at an average annual rate of 3% in the final three quarters of next year.

The reason: This sharp drop in growth is due to a temporary drop in velocity, due to a true credit crunch, with some panic thrown in for good measure. It is not a typical recession caused by fundamental, economy-changing events such as higher tax rates, tighter money, protectionism or other public policies that stifle innovation or entrepreneurship.

The failure of Lehman Brothers, money market fund losses, widening credit spreads and a sudden tightening in bank credit--even an unwillingness of banks to lend to one other--hit hard in September. As a result, the velocity of money--the speed with which money moves through the economy--fell rapidly. The monetary equation MV=PQ helps explain what is happening. Normally, monetary velocity (V) is stable, so once money (M) is known, we can forecast nominal GDP (PQ or real growth plus inflation).

If there is a slowdown in the turnover of money--say a 5% decline--the impact on nominal GDP growth is no different than if the money supply itself shrinks by 5%.

But there is good news. After ham-handing the rescue operation for months, the cavalry has finally arrived. The Fed has injected massive amounts of liquidity, driving the federal funds rate to roughly 1%--where it traded last week.

Moreover, the Treasury Department has drawn a line in the sand. It has decided that no more banks will fail due to a lack of liquidity. We still wish the SEC would have suspended mark-to-market accounting, but instead the Treasury injected capital (by buying preferred shares) in order to stabilize the system and bring back investor confidence. This will work, but it is clearly a sub-optimal policy, involving the federal government more deeply in the private sector than is comfortable for a democracy.

Despite the downside for free markets, these actions by the Fed and Treasury will help unlock the credit markets and turn velocity upward. With velocity and the money supply both heading up, a "V" shaped recovery is likely.

While the conventional wisdom is betting on an "L" shaped economy, and the equity market is pricing in the risk of a prolonged slump in earnings, we think the odds favor a "V" shaped recovery, with only a temporary hit to earnings and a Dow Jones industrials average that recovers to 11,000 by the end of this year, with another 20% climb in 2009 all the way up to 13,250. The economy has succumbed to a panicky credit crisis, not a typical policy-induced recession. As a result, the downturn is unlikely to last long.