Today’s newsletter is shorter than normal – just the one article covering yesterday’s major events.
But what a set of events they were.
Yesterday saw the Dow Jones plunge to its lowest level in 12 years; Barack Obama uttered the words the world wanted to hear, but are not convinced are going to happen; and from Germany there is news that will make your hair stand on end. Meanwhile back in Blighty, news came that British taxpayers may be about to see a £500bn hit, or to put it another way, every man, woman and child on these isles seems set to see their liabilities rise by almost £10,000.
In the US, the Dow plunged 250 points yesterday, ending the day at its lowest level since May 1998. (This morning, markets in Asia came out in sympathy – expect fireworks in the UK today.)
Funnily enough, markets reacted well to the one story that you would have expected to spook them. The rumour mill has ground out talk that things are so bad at Citigroup and Bank of America that they may have to be nationalized. Well, yesterday it emerged that sure, things are really bad at the banks, but that the government was going to save them without nationalizing them. It is difficult to say whether that is good or bad news, but the markets liked it.
It was a similar story in the UK, by the way, with banking shares surging yesterday.
But then, a mood of grimness overtook the markets. Fear stalks traders like a shadow in the night. Always, just out of the corner of their eye, markets see something nasty lurking. And in an environment like that, there’s just one way shares can go. And the big share plunge ensued.
Meanwhile, the great man himself, the new president, said brave words yesterday.
“This administration has inherited a $1.3 trillion deficit – the largest in our nation’s history – and our investments to rescue our economy will add to that deficit in the short term,” said Mr Obama. But he added: “Today I’m pledging to cut the deficit we inherited in half by the end of my first term in office.”
So that’s no easy target – to cut the budget deficit in half by 2013 is a tough challenge indeed. It’s achievable, providing, that is, the US economy recovers.
Mr Obama plans to get money in by taxing higher income earners, and through cutting out waste.
The truth is, the scale of this crisis is such that doubts are now surfacing on even Uncle Sam’s ability to pay back debt without hiding behind the debt weapon called inflation.
Over the weekend, Hilary Clinton was making all kinds of reassuring words aimed at China, about how China’s money invested in America is safe, and now her boss has promised to cut back.
It seems the US government is scared the rest of the world will turn tail, and pull the rug from America’s finances. It’s just a whiff of a fear at the moment, but it is a fear that is growing nonetheless.
Mind you, the danger is not clear cut. In some ways, the whole problem with the global economy is that investors only seem to want to lend to the US government and a handful of other governments. That’s why the yields on US government bonds are so low. Investors have got to put their money somewhere. If not the US government, where else? The usual alternative to government bonds is more-risky assets. And if money flows into more-risky assets, it would mean the credit crunch was coming to an end.
This crisis has been full of surprises – and there is a danger that the flow of money to the US could ease, but, theory at least would suggest this is only likely to happen in the event of an economic recovery.
Now it is time to turn from the world’s great importer, to one of this planet’s great exporters, but make sure you are sitting down, and try and get yourself into as good a mood as possible.
According to comments from Deutsche Bank’s top economist, the German economy is on course for contracting by 5 per cent this year.
Now that would be beyond awful. Economists have started talking about a 10 per cent contraction as being synonymous with economic depression. But that is not in one year, that is overall during the course of a downturn. So, if Germany can contract by 5 per cent in this year alone, it will be a rare achievement, but only for all the wrong reasons.
But, alas, that’s not the bad news.
This is what the Deutsche Bank’s chief economist Norbert Walter is reported as saying: “The German economy will shrink by merely five percent only if we have a real recovery from the summer.” Note that word ‘mere’. If the economy recovers, then and only then will Germany escape with a ‘mere’ 5 per cent contraction.
It’s like saying of your favourite football team, due to line up against Manchester United: “Provided we all play at our best, and run our hearts out, then we should be able to keep their goal tally down to a mere seven goals.”
Mr Walter went on to add: “But it can’t be ruled out that this pick-up won’t materialise. So a bigger contraction can’t be ruled out.”
Ummm, hope you were sitting down when you read that.
As for Blighty, according to the BBC the government may have to take on £500bn worth of bank liabilities in order to save Lloyds and RBS.
The BBC likes its stories about banks in distress. And this story will no doubt develop over the next day or so.
It is important to understand, however, that this is not the same thing as saying the British taxpayer has got to fork out £500bn. Remember, the banks have assets too, it is just that when the ONS calculates these things it tends to ignore the assets, and only count the liabilities. Well, it’s normal accountancy practice when applied to these matters. But really, if we are told to ignore the upside, it can’t really be a surprise to learn that after doing that, everything is on the downside.
The real thing, though, with these bank rescues, is that it seems the long-term remedy would be to encourage the development of new banks. Do that, and you are allowing capitalism to work and letting the system evolve. That’s the problem with these massive bail outs. After throwing so much money at the banks, it seems the temptation will be to ensure the rescued banks keep their hegemony.
What the banking sector really needs, is a kind of orderly creative destruction.
© Investment & Business News 2013