A FORMER International Monetary Fund chief economist has warned that excessive regulation of the financial sector is a likely outcome of the Wall Street meltdown.
Citing the example of the Sarbanes-Oxley Act that imposed new reporting guidelines following Enron's collapse, Kenneth Rogoff said overregulation would be a long-term drag on the economy.
"It's going to be a heavily Democratic Congress after the next election, which is likely to impose a lot of regulation. It's a big question mark how much regulation we are going to have, but there's a chance we could have an overkill that would slow the economy going forward," said Professor Rogoff, who now teaches economics at Harvard University.
"It's a very difficult balance, but I would not be surprised to see an overshoot, as with Sarbanes-Oxley, which did a lot of damage to corporate governance in the US. The economy is still trying to deal with it."
Professor Rogoff said growth would slow as the US tried to reconstruct its financial sector, which probably needed to shed up to 20 per cent of its jobs.
The sector, formerly a flagship of the economy, was "half gone".
"It's hard to imagine that this will not lead to a more significant slowdown, and very probably global recession. We already had Europe and Japan in recession and now the US is certainly not going to escape," he said.
"The stresses in the credit markets are going to be radiating out for some time. I suspect commodity prices are going to take quite a blow, temporarily but significantly, that's probably going to continue to hit the Australian dollar hard.
"Political pressure to bail out the banks is very strong … the lesson is the faster you let the sector shrink and rebuild, the faster you come out of it. If you try to intervene on the way down, you lengthen the time the bank sector will shrink and reorganise."
He expected the strong underlying trend to the economy would reassert itself by mid-next year.
But economists said their forecasts were hampered by the unknown details of the US Administration's $US700 billion rescue package, which is meant to absorb the finance sector's toxic debts.
Josh Shapiro, the chief economist with consultants MFR, said it was hard to not see the US being mired in a recession, but it was too soon to revise detailed forecasts. "We only have the broadest outline of the bail-out and that seems to be changing by the hour."
A struggle was also looming over how to value the assets to be acquired from the financial sector, he said.
