The great and the good of the financial world, gathered at the World Economic Forum in Davos, reckon 2007 will be another very fine year for the global economy.
Europe and Asia will pick up the baton of global growth from the US, and the wonders of globalisation will iron out the imbalances in the global economy – emerging economies now account for 40% to 50% of global economic output (by some measures, anyway), so we don’t need the US as much anymore, apparently.
Laura Tyson, of the University of California, argued for ‘another Goldilocks year’ in 2007, but tinged her optimism by pointing out that over the past 20 years, unexpected shocks have hit the world economy at the rate of about one in every three years. ‘The big bad wolf is hiding in the forest and we economists can’t always see it.’
So where could it be?
The mood among those gathered at Davos seems to be pretty cheerful when it comes to the global economy. Jacob Frenkel, vice chairman of AIG, took a swipe at those of a more bearish nature, saying, ‘the story of 2006 is the story of what did not happen.’ Among things that didn’t happen in 2006, ‘the dollar didn’t collapse’ and ‘oil prices didn’t reach $100’.
But arguing that something won’t happen, simply because it hasn’t happened yet, is a very weak way to back up your point of view. You could, for example, argue that a global catastrophe caused by climate change is not going to happen because it hasn’t happened yet – but we doubt that argument would get a sympathetic hearing in many corners of the world at the moment.
Meanwhile, you can practically get two dollars to the pound, and the latest little bout of cold weather which has managed to paralyse half of the UK (in January of all months? Who could have predicted it?) seems to have injected new life into oil prices, which are headed back up to the mid-$50s per barrel. So it seems a bit early to be dismissing either the dollar or the oil price as potential problems.
Another potential worry, which the delegates were more exercised about, is that of globalisation’s losers – mainly the Western lower and middle classes. Morgan Stanley’s Stephen Roach pointed to the fact that the share of national income going to workers in the West has fallen to historic lows, even as the amount going to corporate profits is at a record high.
Professor Robert Shiller of Yale University warned a backlash could lead to social unrest and a retreat into protectionism. He argued that governments need to raise taxes on the wealthy to help those being left behind. ‘Once inequality increases it’s a problem that will be with us forever.’
Inequality is certainly a problem – but we’re not entirely sure why the solution most often proposed these days seems to be to raise taxes. The tax system should definitely be more equitable than in the UK, where the burden seems to fall most heavily on those somewhere in the middle – but you could improve this by cutting taxes on the less well-off, rather than raising them at the top of the scale.
This idea does seem to get some people very worked up, but that’s because we’re still stuck with this mindset that tax should essentially be a way to punish the rich for having more money than the rest of us. But that’s not the point of taxes. The point is for the government to raise money to spend on improving public services – but despite a rising tax burden and soaring public borrowing, the current government doesn’t seem to have much to show by way of improvements in education, health or law and order. So maybe it’d be better if we all were allowed to keep more of our money and then spend it as we see fit – after all, we all tend to be much less casual with our own money than we are with other people’s.
Another problem the delegates highlighted was also to do with money and who has it – specifically the global derivatives trade. Zhu Min, the Bank of China’s executive vice-president said: ‘There is money everywhere. You can get liquidity from the market every second for anything. Derivatives are eight times global GDP and much of the money is flowing to Asia, where people have no idea what risks they are taking.’
And he’s not the only one worrying. Ambrose Evans-Pritchard in The Telegraph reports that Montek Ahluwia of India’s planning commission ‘said the derivatives revolution had allowed banks to ‘park risk elsewhere’, disguising the danger.’
As we’ve argued for a while, this money glut has fuelled asset bubbles across the world. And one of the biggest – and the one which poses the real threat this year – is the US housing bubble.
And this is where arch-pessimist Nouriel Roubini was on hand to disrupt the happy Davos picnic. He pointed out that 16 sub-prime lenders have already gone bust in the US, and argued that the US is headed for a hard landing. We’ll cover this in Money Morning again shortly – but there’s more on why the US property bust has yet to run its course in this week’s issue of MoneyWeek, out on Friday.
Turning to the stock markets…
The FTSE 100 broke through the 6,300 mark yesterday to end 87 points higher, at 6,314. Investors were cheered by the latest Bank of England interest rate minutes, which suggested that interest rates could have peaked. The mining sector put in a strong performance, with shares in Vedanta Resources climbing over 5% and Kazakhmys and Xstrata also making good gains. For a full market report, see: London market close (/file/24557/london-close-blue-chip-index-tops-6300.html)
Elsewhere in Europe, the Paris CAC-40 closed 63 points higher, at 5,638. In Frankfurt, the DAX-30 ended the day 69 points higher, at 6,748.
Across the Atlantic, the Dow Jones hit a new record of 12,621, having gained 88 points. Tech stocks were boosted by Yahoo, which has introduced new search engine technology, helping the Nasdaq to a close of 2,466, a 35-point gain. The broader S&P 500 ended the day 12 points higher, at 1,440.
In Asia, the Nikkei was hit by profit-taking and ended the day 49 points lower, at 17,458.
Crude oil was trading at $55.23 today, whilst Brent spot was at $55.35 in London.
Spot gold was at $646.70 this morning, down from $657.20 in New York late last night. Silver was unchanged at $13.18.
And in London this morning, shares in airline BA fell as cabin crew moved a step closer to taking strike action after talks broke down. The Transport and General Workers Union, which is threatening to strike next Tuesday and Wednesday over BA’s policy on sick leave and pay scales, said that the ‘door remains open’ for a settlement. BA shares were down by as much as 1.1% today.
And our two recommended articles for today…
Where next for the crude oil price?
– After holding in the $60s for many months, crude has recently dropped towards $50 a barrel. It may have started to edge higher again in the past few days, but what’s the longer-term outlook? For more on why it fell in the first place – and if it will fall again – read: Where next for the crude oil price?
How long will the New Year market rally last?
– Markets have begun 2007 in fine form, but how long can the New Year rally last? To find out what the outlook is for the major indices, and where to look out for buying opportunities, click here: How long will the New Year market rally last?