Attack's effect on confidence could push economy over the edge

Economics

Is a global recession now inevitable? This was the question economists at banks around the world struggled to answer in the wake of Tuesday's terrorist outrages. The attack on the heart of the global capitalist system will without doubt deal a heavy blow to a global economy that already looked on the brink of downturn.

Is a global recession now inevitable? This was the question economists at banks around the world struggled to answer in the wake of Tuesday's terrorist outrages. The attack on the heart of the global capitalist system will without doubt deal a heavy blow to a global economy that already looked on the brink of downturn.

Among many, the sense of gloom and foreboding was growing yesterday. "It is hard to see now that the global economy will avoid a recession," said Stephen Lewis, chief economist at Monument Derivatives, a London brokerage.

This view was not universal, however, with some experts – especially those working in New York – insisting that the American economy would prove to be resilient.

New York's stock exchanges remained closed yesterday, leaving shares across the rest of the world to fluctuate in highly volatile trading. There were sharp falls in the Far East, where the Japanese market fell to 17-year lows.

As analysts waited to see how the US financial markets would react, some attempted to find their bearings by considering the effects of previous shocks to the world economy.

Some compared it with the attack on Pearl Harbor in 1941, which caused a 5 per cent slump on Wall Street. Others pointed to the Iraqi invasion of Kuwait in 1990 or the near-collapse of the US financial system in the wake of the 1998 Russian crisis.

Most believe the key threats are a collapse in consumer confidence leading to a slump in demand; a surge in the oil price that would bring industry to a halt; a stock market crash; and an outbreak of panic sending consumers rushing to close bank accounts.

Other variables are the scale of any US retaliation and the response of the world's leading central banks. One senior global economist, who did not want to be named, said: "It is worth looking back to 1990. In the month of the Iraqi invasion consumer confidence collapsed and never recovered, marking the start of a bad recession."

Mark Cliffe, global economist at ING Barings, said the decision by the oil cartel Opec to guarantee supplies had made a repeat of the post- Gulf War recession less likely.

But the impact of Tuesday's attacks would go beyond just loss of life and property. "The timing could hardly be worse given that fears of US and global recession were already rife," he said. "Business, consumer and financial market confidence will be hit, depressing global activity."

Forecasts for world growth have already been slashed. The International Monetary Fund has already cut its forecast for growth this year – to 2.8 from 3.2 per cent – and may do so again when it publishes official forecasts in a fortnight's time.

Michael Derks, the chief international strategist at Commonwealth Bank of Australia, said the US economy would be hit by a slump in tourism and risked falls in both consumer confidence and the stock market. "As the US led the world into the slowdown, it was expected to pull it out at the other end," he said. "At best this will be postponed."

John Llewellyn, the global chief economist for Lehman Brothers, said forecasts of a recovery had been based on the resilience of American consumers, which now looked in doubt. "The net effect will likely be negative," he said. "The US will likely end up in recession and the global economy will perform worse than in the early 1990s slowdown."

The CBI, the UK employers' group, said it was too early to say with certainty that there would be a long-term impact on the world economy. Digby Jones, the group's director-general, said: "Clearly there will be short-term disruption to financial markets and to commerce within the US. But it is premature to say that the attacks in themselves will necessarily lead to a significant further weakening of the world economy."

Hopes of avoiding a recession rested on a cut in interest rates by the Federal Reserve, the US central bank. Carl Weinberg, the chief economist at High Frequency Economics in New York, said: "I have confidence that the system will be strong enough and that the folks in charge will be wise enough to see us all through this storm."

He believed US business, workers and officials would continue to work and behave as normal, adding: "We are at our desks. I refuse to be terrorised."

But bankers in the City of London said that traders were watching rather than participating. David Harbage, fund manager at Barclays Stockbrokers, said: "Everyone is still shell shocked. It is uncertain where the markets are going.

"And, so very close to human tragedy, investors and financiers are not in their normal hard-nosed mode and watched rather than drove the market."

Mike Lenhoff, a strategist at Gerrard, said: "I think people are waiting until we get the lead back from the States."

Philip Shaw, chief economist at the City stockbroker Investec, said that he thought the US could slide could into technical recession this year.