Recently, a CNNMoney report showed that volatility in the stock markets hit 3-month highs in response to the Greece crisis’ effect on the Euro and the European markets. It’s hard to believe that debt problems from one relatively small economy could affect the global economy in such a way. Rather, I view it as a symbol of how fragile the current economic recovery is.

It’s pretty remarkable how the stock market has recovered from the financial crisis, with the Dow almost doubling in little more than a year since it hit its low point back in March 2009. Most companies’ corporate profits have beaten analyst expectations and are once again solidly in the back. The recent GDP reports show sustained economic recovery driven by consumer spending, which is a huge part of economic growth. By all measurable statistics, the economy is in a full recovery swing.

However, the economy also has a psychological component that is often overlooked. As the financial crisis has shown, people in a market often engage in irrational behavior. It is this facet that may derail the economic recovery despite the spate of good news that has occurred lately.

The first psychological red flag is consumer confidence. The consumer confidence index, although improving, is still at about 57.9, compared to the benchmark 100 at 1985. In that report, people who think the economy is bad still outnumber those that think it is good, 40.2% to 9.1%. If consumers have a negative outlook on the economy, they would likely save more and spend less; in fact, this is exactly what happened.

Just as important as consumer confidence is investor confidence in the economy, as it drives the stock market. Although on the surface people are willing to invest again, there is actually a great deal of nervousness and uncertainty behind the surge, as the recent increase in volatility suggests. It seems that right now investors are trying to sell their investments and cash in on profits, as a sustained rally is all but certain. The Greek crisis gives them an excuse to do so; if the situation continues to deteriorate, it could lead to a snowball effect on the stock markets that would lead the US back into recession.

If I was a policymaker in the government right now, I would focus all my efforts on stabilizing the different aspects on the economy, as growth cannot be built on shaky foundations. The current volatility in the stock market is very dangerous as it threatens to collapse the recovery, wiping out all the efforts to promote recovery in the global and US economy.

(Photo: Dave-F)