A good start would be to admit how little we understand today's markets

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The Independent Online

It is quite funny in a way. Last weekend the papers were full of doom and gloom stories about the deepening collapse of share prices. Shares on the US high-technology market, Nasdaq, had fallen sharply and were dragging the rest of the market down too. London, as usual, followed New York.

It is quite funny in a way. Last weekend the papers were full of doom and gloom stories about the deepening collapse of share prices. Shares on the US high-technology market, Nasdaq, had fallen sharply and were dragging the rest of the market down too. London, as usual, followed New York.

This week it was supposed to be mayhem. Frightened investors were expected to bail out of any high-tech shares they had been unwise enough not to have sold earlier. More that this, the Wall Street slump was going to put an end to America's long boom, the dollar was going to plunge, and all those nasty dot.com millionaires would get their comeuppance.

Trouble is, things haven't turn out like that. US share prices, far from falling further, rebounded. The dollar recovered, pushing the euro down to yet another new low. And as for those dot.com millionaires, well, the heady mood of a few weeks ago may have evaporated, but there still seems plenty of eagerness among investors for quality "new economy" companies.

So what should we make of it all? Was it just a brief spring shower or the rumble of distant thunder?

I suppose the first lesson is the obvious one, that we should distrust anyone (including newspaper columnists) who tries to explain the forces behind share markets. The strength of US markets has been almost as much of a surprise to Europeans as the weakness of the euro. Even experts - perhaps especially experts - get things wrong when they try to justify any particular level of share prices.

The second thing to say is that whenever the markets are particularly volatile, this signals a tussle of ideas. Forget about the level of prices, just look at the way they swing around. At the moment they are finding it very hard to cope with three seismic changes in the world economy. The first of these is the sustained imbalance in economic performance between the US on the one hand and continental Europe and Japan on the other. The second is that they are not sure how to price the shift from a world of inflation to one of deflation. And the third, the toughest of all, is figuring out how the new economy will transform the old one.

A word about each. Estimates for growth this year are being upgraded all around the world, but of all the booms, the US one remains the big boy. Growth this year is expected to top 5 per cent. With growth like that, companies make good profits, so the boom continues a while longer. Some day all booms end, and this one is showing signs of strain both in rising inflation and a widening current account deficit. But the Federal Reserve will lean against inflation by increasing interest rates and the deficit at the moment is being financed by a solid inflow of capital hunting for the spoils of the world's hottest economy. So while intellectually many people accept that the boom is ultimately unsustainable, for the time being it runs on.

The tension evident in the markets in the last two weeks is between those who feel that the US boom will return to earth by making a soft landing, and those who feel it will crash to earth in a mess. Last week the crash- landers were winning; this week the soft-landers were back in charge.

The inflation/deflation tussle is less obvious but underlies all investment. For most of the postwar period, the thing that killed a boom was a surge in inflation. So all anyone trying to call the end of a boom had to do was to look at what was happening to prices. Trouble is, thanks in part to the internet but also to general downward pressure on prices from increased global competition, there is very little inflation about. In the places where there ought to be inflation - the slightly overheating UK economy, for example - there is no sign of it in retail prices. In fact the worst inflation is in places where you wouldn't expect it, such as parts of the eurozone.

In another 10 years, when we have become more accustomed to a world where prices are as likely to fall as to rise, we will be better able to decipher the danger signals. Maybe we will become more worried about the trend in asset prices than what is happening in the shops. Here in Britain we will regard house prices as a danger signal - if the Bank of England pushes up interest rates after its next meeting, the housing boom will be one of the reasons behind the move. But this not particularly a British problem: for the moment everyone everywhere is struggling to understand how to respond to inflationary pressure that does not show in higher prices. The result is confusion.

And then there is the new economy. I don't think any of us really understand what is happening. We are all like the blind man trying to describe an elephant by the parts he could feel. We can grasp bits of it - for example, banks simultaneously shutting branches and developing their online banking services is a practical change wrought by the internet. But whether the new technologies will generate a lasting period of faster sustainable growth is still an open question. They certainly ought to, and there is now some US evidence of a rise in productivity, but it is a big conclusion to hang on a few tatty statistics.

But this is absolutely crucial. If the new economy merely displaces the old one, then there is little net gain to society. If on the other hand, the whole world economy becomes sharper, better able to meet human desires, then sure, you can start to justify more ambitious share values.

The sensible reaction to those stock-market swings is neither to cheer that the moaning minnies have been put back in their boxes, nor to jeer that Martha Lane Fox is worth a few millions less than the number first though of. By the same token, the Anglo-Saxon triumphalists, on the one hand, would be wise to pause before heralding the recovery on Wall Street as a sign that the world should dance to the American tune, while the Europhiles, on the other, should be aware that the gap between slow-growing continental Europe and dazzling America will not be easily closed.

No, we should neither cheer nor jeer. We should try as far as we can to understand. The last couple of weeks have seen a fascinating bout in the world's economic history, and we all have had ringside seats. What is more, there will be many further bouts in the months to come.