It was one of those weeks when recoupling became more fashionable than decoupling, and that has been spooking the markets.
The idea of decoupling was that the rest of the world economy could remain insulated from the slowdown in America because demand from Asia and Europe could continuing driving things forward. Certainly this year has seen a historic shift, with both China and the eurozone expected by the International Monetary Fund to add more demand to the world economy than the US. But that is this year. What about next?
Recent signals from Europe have been discouraging. The high value of the euro, the flip side of the collapsing dollar, is causing serious difficulties for European exporters – "beyond pain" for Airbus, now planning further cutbacks in staff – while eurozone consumers remain cautious. The European Central Bank cannot cut interest rates because inflation seems to be climbing again, thereby supporting the strong currency. The eurozone purchasing managers index, which gives a feeling for the optimism or pessimism of the business community, is at a 27-month low.
Only the UK is big enough to help, and our economy is clearly slowing too. I would not worry too much about the modest downgrading of third-quarter growth evident in some revised figures on Friday. As of now things still seem to be steaming along reasonably strongly. What I found more disturbing was the sharp fall in the value of new mortgage approvals in October, down 27 per cent on the previous six months. We may be moving to a situation where the availability of credit, rather than the price of it, becomes the limiting factor.
That really leaves Asia, for the economies of Russia, the Middle East, Latin America and Africa are as yet are too small to add much to global demand. China continues to boom but Asia as a whole depends heavily on exports to the US to underpin that growth. Japan is struggling already. The Indian economy is as yet is too small to pull along the region. For the time being, China does seem able to do so, for growth is racing along at more than 11 per cent a year. But it is showing strains and the authorities are seeking to rein the economy back.
Pondering all this, I found myself intrigued by the IMF's most recent World Economic Outlook which shows how the developing countries now outpace the developed ones in their growth rates. The gap is larger than at any time since the 1970s, save for the brief dips of the 1970s and early 1980s. More interesting still, the IMF projects that this gap in performance will continue for the next five years.
That leads to two obvious questions. Is it really credible that developing country growth will continue for another five years at this rate? And is it really credible that the developed world will not experience another dip as it did in the 1970s, 1980s, 1990s and early 2000s?
Both propositions seem unlikely. The world financial system is having to recycle a huge amount of money from debtor countries (mainly the US but also the UK) to creditor ones (mainly the oil producers, plus China and Japan). These imbalances are larger as a percentage of world GDP even than in the 1970s following the quadrupling of the price of oil. A healthy international banking system, with confident investors, has until this year managed to sustain record growth. But to expect a now-battered system to go on doing so until 2012 seems to me unrealistic. The adjustment will have to take place more swiftly than is projected.
If this is right, then the US will have either a recession or three or four years of much slower growth. Michael Dicks, head of research at Barclays Wealth, thinks "the US will avoid a sharp downturn, helped by Federal Reserve rate cuts as necessary"; hopes that Europe and Asia "would be immune to a US slowdown are beginning to fade", he notes. We here in the UK will have a period of slower growth, though not a recession. As for Europe, the interesting thing will be the differences within the eurozone rather than the overall performance. For Germany, the issue is coping with the high euro. The Spanish housing market seems to be under more pressure even than ours.
What are the implications of all this for financial markets? Here the most interesting piece of work I have come across is some good, tough-minded commentary from Lombard Street Research. Charles Dumas there looks forward five years to where the Asian savings glut will go next. His conclusion is ... equities, not commodities and certainly not property.
His argument is that Chinese citizens are showing a bout of enthusiasm for equities. The Chinese authorities have set up a sovereign wealth fund to try to get a better return on official holdings and seem willing to encourage private investors to channel some of their savings abroad. By contrast Mr Dumas argues that the long-term trend of real commodity prices, excluding oil, is negative. And property? That was the darling of the last cycle so is unlikely to perform well in the next one.
The key point he makes – and I too think this is the one that matters most – is that what Chinese investors want to buy will determine which assets do best in the next cycle. Come back to the point at the beginning of this column. The world is depending mainly on China to mitigate the scale of the next global downturn. To some extent it will do so but only to some extent. But we are also relying on Chinese savers to mitigate the scale of the next bear market – or depending on your time perspective, shape the structure of the next bull market. It is a very different world from anything we have experienced to have the next stage of the economic and financial cycles determined in fair measure by the emerging economies rather than the established ones.Reuse content