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World in Crisis; Business as Usual?

Turmoil in the Middle East and massed attacks on Libya, threatening another protracted war in the region, are powerful shocks to the global economy. The markets are already spooked by Japan’s crisis, Europe’s debt woes and uneven economic data coming out of China. These, combined, threaten any prospect of sustainable recovery. When a recovery is weak, there is no buffer to cushion economies from the impact of shocks.

That is not to say that the world is in any danger of tipping over the edge. At least not yet.

When the Japanese crisis happened, and the bombs started falling on Libya, the price of oil escalated and there was greater for demand for safe haven currencies, like the US dollar. But money is now flowing back into the world markets.

On one hand, the World Bank says Japan’s repair bill will come to $235 billion. Ratings agency, Moody’s, says that global supply chains will be disrupted and that Japan will experience a recession in the first half of 2011, followed by a resumption of growth in the second half.

At the same time, however, money flowing into the market sent the Dow Jones above 12,000 for the first time in weeks, boosted by a jump in energy stocks, with oil prices rising.

Part of the markets’ boost was created by news that Deutsche Telekom had agreed to sell T-Mobile USA, to AT&T, for $US39 bn and Tiffany’s reporting a 29% rise in quarterly profit. In other words, it was business as usual, regardless of the events in Japan and Libya.

Similarly, the FTSE 100 Index of blue chip shares also rose, with the world taking action on Libya and concerns about Japan’s nuclear crisis beginning to ebb.

All this seems to suggest the markets have shrugged off the “black swan events”. Investors are instead focusing on economic news highlighting how economic growth is moving ahead and global economy is recovering from the worst crisis since the Great Depression.

However, it’s anyone guess as to whether this will be sustained, or the market will tip over the precipice. In one nightmare scenario, for example, the Japanese are already pulling money back home, so they can rebuild after the devastating earthquake and tsunami.

That could cause a crash in bond prices, in the US, which would drive up interest rates, choking off US recovery and precipitating another financial crisis, in which banks are starved of funds. We are facing a period of volatility.

Still, fickle financial markets and investor patterns have been around since the global financial crisis, in 2008. Morgan Stanley’s Asia chairman, Stephen Roach, says the economic crises are now coming faster than ever before.

Roach says: “Over the last 25 years we had an average of one crisis every three years. The gap this time is 18 months. The scale is bigger. And we now have product contagion from subprime to mortgage-backed securities, back to cross-border contagion within the euro zone. This interplay between cross-border and cross-product contagion is very difficult to unravel.”

This means markets will remain unsettled.
“The action by coalition forces in Libya over the weekend has helped market uncertainty in the short-term, but it would be dangerous to assume it will be plain sailing for shares from here,’ David Jones of IG Index told reporters in London. “With plenty of potential for shocks from Libya and Japan, investors will continue to weigh up markets on a day-by-day basis at the moment, so further volatility this week cannot be ruled out.”

Much of the problem is about fear. Panic spreading through markets could do a lot more damage. If oil prices keep rising, investors will start to worry about the notion of a double-dip recession.

In a report, filed after the Japanese crisis, Wells Fargo Securities analyst, Scott Anderson, warned of “psychological damage”, that could lead to a selloff in the stock markets. “A full-blown financial contagion cannot be ruled out,” Anderson said. That is despite the fact that economic history shows that disasters like earthquakes have only a temporary impact on markets.

Anyone planning a career needs to take this volatility into account. When markets freeze up, because of the psychology of investors, economic activity freezes. Consumers start hoarding their savings and companies rethink their investment and hiring plans. It results in recessions. It also changes career paths.

Leon Gettler

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