ECO-Fin-0007 Stock iStockphoto/Stefan Klein

While the economic data have continued to be chilly, financial markets have been positively buoyant. The S&P 500, for example, has advanced about 50 percent since its trough in March. The stock market clearly believes that the storm has passed. But stock markets go up and down, often for little obvious reason. There is only one way to know whether the storm has truly passed: It's time to check back in with "TED."

Last October, a chart in this space showed the difference between the rate that the world's most prominent banks pay one another in order to borrow money for three months and the three-month U.S. Treasury rate. The first rate is called the LIBOR, or the London Interbank Offered Rate. Their difference is known in the industry as the "TED spread."

If Deutsche Bank borrows money from J. P. Morgan for three months and pays it 4 percent interest, and the U.S. three-month Treasury rate is 3 percent, then the spread on the chart would be 1 percent. Over history, this spread has been about half a percentage point. Last fall it climbed to almost 5 percent. The bluest-chip banks were singing the blues. Interest rates were high because the odds of default were perceived to be high as well. Panic swept faster than swine flu from investor to investor and risk-taking stopped, as did the world economy.

I wrote last fall that surely those defaults could not possibly happen, both because safety nets the world over would catch the plummeting banks and because panics inevitably overstate the likelihood of catastrophe. Indeed, as can be seen in the chart below, the TED spread has returned approximately to its historic norm. Banks have stepped back from the abyss, and no longer treat one another like junk borrowers.

Since financial panic set off the economic calamity, this clear sign that the panic has subsided is a precondition of a lasting recovery. It is necessary but not sufficient. In particular, banks have not defaulted in part because governments and central banks stepped in. Yet governments themselves have rung up enormous debts, both to finance the bank bailouts and to "stimulate" the economy.

Whether the recovery endures will surely depend on the fiscal situation. If government finances return to sound footing, then the government backstop will continue to serve its calming function and the economy will eventually boom again. But if deficits expand, as they will if Obamacare becomes law, then the market may well begin to wonder whether governments have enough resources left to sustain the safety net in the event of another panic. At that point, the panic will recur, and TED will again take center stage.

The TED spread is so low that markets must think that governments will work things out. For those opposed to the current president's agenda, that might be the best news yet.

Kevin A. Hassett is a senior fellow and the director of economic policy Studies at AEI.