The bears came back yesterday, as markets across the world saw sharp losses.

Why this latest batch of gloom? The World Bank sat partially behind the news. The European Central bank didn’t help. Meanwhile, one strategist forecast another major sell off on stocks, with equities falling to the March low.

Why the global change in heart? And are equities really set to slide all the way down again?

The World Bank started the gloom. Of late, forecasters have been upgrading their projections for the global economy, and then along came the World Bank and threw a rather rusty spanner in the works.

The bank, which was formed at the Bretton Woods conference in 1944, now reckons the global economy will contract by 2.9 per cent this year. Worryingly, back in March, when doom and gloom was the staple diet, it estimated that the global contraction would be 1.7 per cent.

It seems the Eurozone will lead the charge down. Three months ago it forecast a 2.7 per cent contraction for this year, now it is forecasting 4.5 per cent. The US is expected to do worse too, but the World Bank didn’t revise its projection for the US quite so severely . It is now forecasting a 3 per cent contraction, from 2.4 per cent.

Frankly, you shouldn’t be surprised by the declining fortunes of the Eurozone. It has become obvious for some time that this region is set to suffer far worse than was originally expected. For much of last year it was generally assumed that Germany would come out of the crisis relatively unscathed, because the world’s fourth largest economy does not suffer from the same debt problems seen elsewhere. Germany also does something that Brits have supposedly forgotten how to do, and that is make things. For much of last year it seemed the lesson of this crisis was that economies have to be built on the solid foundations that come with factories staffed by skilled workers working with state of the art equipment.

It seems the debate has now moved on from that.

In the globalized world every country must find its niches. And that means there is nothing wrong with being an exporter of services.

Anyway, back to the World Bank report; the most telling stat it revealed relates to the collapse in world trade. The story goes like this: in 2007 the volume of world trade grew by 7.5 per cent, in 2008 it grew by 3.7 per cent, but this year it expects a contraction of 9.7 per cent. It anticipated a mild recovery next year with 3.8 per cent expansion, and 6.9 per cent growth in 2011.

In fact, the above figures really do tell the tale of this crisis. The globalized economy was structured for growth in trade. China, India and the rest of the gang were seeing rapid rises in productivity, meaning there needed to be a market for all these new goods and services they were able to create. And yet trade just collapsed. The World Bank’s forecasts suggest it won’t be until the latter few months of 2011 before the volume of world trade returns to the 2008 peak. But, bearing in mind that in the meantime productivity will have continued to improve, this means global demand will be lagging well behind potential supply.

Sometimes we make economics too complicated. Growth occurs if productivity rises, and demand rises in tandem. Deflation occurs if the growth of demand lags behind growth in potential supply, and inflation occurs if demand rises above supply. An argument can be made for saying that in the build up to this crisis demand outstripped domestic supply in countries such as the US, UK and Spain, but globally this always was a crisis of insufficient global demand.

Returning to the gloom. The World Bank saved its worst forecast for Russia. It expects the economy of the bear to contract by 7.5 per cent this year. (This does not mean other countries won’t perform worse – the World Bank forecast only concentrates on certain economies – and by the way, the UK is not included in its projections.) Japan is expected to contract by 6.8 per cent, Mexico by 5.8 and Turkey by 5.5 per cent.

China and India are expected to slow to growth rates of 6.5 and 5.1 per cent respectively. Intriguingly, the World Bank expects to see a sharper recovery in India, with growth forecast to hit 8 per cent next year followed by 8.5, while China is expected to see growth of 7.5 followed by 8.5 per cent over the two years.

And while the World Bank was busy delivering its woe, Jean-Claude Trichet, the President at the European Central Bank, spread some more downbeats around when he said: “Currently, we are still in the downturn phase. While there are first signs that the pace of economic weakening is decelerating, we must remain alert. We are in uncharted waters and there are still risks of a sudden emergence of unexpected financial turbulence.”

The World Bank, by the way, is still worried about the stability of banks, and reckons more bails out are to follow.

Well, it has been pretty well documented here that Swedish and Austrian banks could suffer from the woes of their eastern neighbours. This could then in turn spread to Germany.

But the story for British banks may not be quite so bad; see next article.

And finally, according to Jim Reid, a strategist at Deutsche Bank AG, US and European stocks will fall below the March lows, if history is any guide. His comments were reported by Bloomberg. He talked about something called secular bear runs and said such periods are characterized by multiple rallies, but the declines that follow see lower valuations than in the previous decline.

Well, he may be right, but there is a puzzle. If today’s crisis is unique, how can we forecast the movements of equities from past behaviours?

© Investment & Business News 2013