Don't rely on Fed's safety net this time around

Central banks; Tackling terrorism; RWE's US buy
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The world's two most powerful central banks have fired their big guns in what, in figurative terms at least, might perhaps be seen as the first concerted act of retaliation since the terrorist attack on America a week ago. The Swiss and the Canadians were swift to follow. Our own Bank of England Monetary Policy Committee surely cannot be far behind. Can they succeed in saving us from global recession?

The last time synchronised rate cutting on this scale occurred was during the emerging markets crisis of 1998. It worked wonders in helping to restore business and consumer confidence then, so why not now? Unfortunately, we are dealing this time around with a much more serious set of events; tacked on to the already perilous economic situation there are a number of extra dimensions of which only the most obvious are an act of war against the world's most powerful nation, rising international tension and possible multiple bankruptcies through the airline, insurance and financial services sectors.

At the New York Stock Exchange yesterday, Paul O'Neill, the US Treasury Secretary, displayed touching faith in the chairman of the Federal Reserve – "Greenspan is always there, he always does the right thing" – but the reality is that not even Alan Greenspan can play God, and the nature of this crisis make the usual tools of monetary easing and tax cutting look less than equal to the task. We shouldn't at this stage allow ourselves to get too gloomy. There's still some possibility the crisis will be short lived. Thanks to the rate cuts from the Fed and the ECB, plus a gritty determination among investors not wholly to submit to blind panic, the damage to the Dow when Wall Street reopened yesterday was not as great as it might have been.

But it's early days yet, and the balance of probability is still that things will get a lot worse before they start to get better. Just think about it. Before last Tuesday's horrific events, the US economy, although virtually at a standstill, could still be reasonably confident of some sort of recovery late this year or early next. Post these events, the mirror image applies; it is hard to see how the US can escape some sort of a recession. The only real question is how long or deep it might be.

There was a lot of talk before Wall Street opened yesterday of a "patriotic rally", that Tuesday's tragedy might in some way galvanise markets and the economy on to higher planes, which was a nice thought but not the way the real world operates. In the end, it is self interest that drives investors, and at this stage nobody in their right mind would bet against the crowd or buy the market out of patriotism and American solidarity alone.

No, what investors, businesses and consumers do during moments of extreme uncertainty is batten down the hatches, pursue the least risky option and just stop. They stop buying, they stop deal making, they stop trading up their houses, they stop business expansion plans, and most of all they stop investing in the stock market. Interest rate cuts alone are not going to reverse this safety-first response.

Policy makers in supposedly free market economies have become impressively adept in modern times at manipulating and regulating the markets in a way that removes their natural tendency towards over exuberance and catastrophe. Even in the land of the free, there's no such thing any longer as unfettered capitalism. The federal and legal safety nets are everywhere to be seen, not least in yesterday's pre-emptive strike by the Fed just before Wall Street reopened yesterday. Unfortunately, they can never be made entirely foolproof, and as things stand it looks all too possible that the present state of heightened tension and nerves might prove a case in point.

Tackling terrorism

Financial regulators around the world are investigating the possibility that Osama bin Laden and his associates might have been insider trading ahead of last week's tragic events by selling insurance and other equities short. Fact over the last terrible week has proved so much more gripping and disturbing than fiction that the suggestion should not be dismissed as altogether ridiculous. What's more, Mr bin Laden is no stranger to stock trading. He's said to have indulged in it quite freely in his former incarnation as a Saudi construction company boss.

But even if true, it's most unlikely that regulators will ever get to the bottom of it. In a world governed more and more by transparency and openness, many aspects of commerce and money remain impenetrable even to the most determined and powerful of regulators. Terrorists and former dictators have fewer and fewer places to hide, but their money has boltholes by the thousands.

International co-operation between financial regulators, and a general tightening of the legal framework throughout the developed world, has made dirty money harder to hide than it was, but progress is slow, and many offshore centres still make secrecy their prime marketing tool. In their war against terrorism, governments might usefully turn their attention to the offshore centres and the western banks and securities houses that regularly use them. There needs to be a lot more glasnost in financial markets all round.

RWE's US buy

Even the worst terrorist atrocity in history seems incapable of dampening the appetite of Germany's utility companies for overseas conquest. RWE's acquisition of America's biggest water supplier has echoes of Deutsche Telekom's headlong expansion into international markets.

Both companies set their sights first on the UK – Deutsche Telekom buying One2One and RWE snapping up Thames Water. Both companies then went transatlantic in pursuit of their ambitions to become globally dominant. There is one further similarity: both companies have paid top dollar for their acquisitions. Thames was bought at a price per share which equalled its all-time high. One2One was bought at the height of the mobile mania. Now RWE has paid a eye-watering $7.6bn for American Water Works, which explains why its supposedly defensive stock price went into reverse in a rising market on the Frankfurt bourse yesterday.

RWE could have pulled out of the US deal or renegotiated the price in the light of last week's horrific events. To its credit, it has done neither and instead stood by the logic which propelled it towards the deal originally. First, there will be some savings to be had by combining American Water Works with RWE's existing US water business, E'Town. Both are New Jersey-based, although American Water Works has a significant presence in the US midwest and south. Second, there are still lots of growth opportunities in the US water industry as more and more municipal contracts are put out to tender in the private sector. Being largely a domestic supplier, American Water Works is better insulated against an industrial downturn than other suppliers.

But even for a company the size of RWE this is a big bite to take all in one go, and it will have to print bonds by the lorry load to pay for it. The only question now is how long RWE's arch-rival, the fellow German utility E.ON, will wait before making a move into the US too. It has already planted its flag in Britain with the acquisition of Powergen and has made no secret of its transatlantic ambitions.