大象传媒

Apocalypse now?

• Evan Davis | Notes on Real Life |
• 6 Dec 07, 12:08 PM

... No surprise there, given the evidence that market interest rates are higher than intended and a slowdown is gathering pace.

Is the world saved? Can we now all relax?

Probably not. The main challenges remain, and the risks are sufficiently worrying that even if one tries to disregard apocalyptic language about recession, this is a pretty good time to allow oneself a bit of scary hyperbole.

For the most cogent example of that, see in The Times today.

My own personal view is that things may well go quite well next year. However, there is a sufficient risk they will go badly or very badly.

At the outset, it should be said that whether things go well or not, the economy seems to have reached a turning point, with an end to an era of rising house prices, rising borrowing, strong consumer spending, a deteriorating trade deficit and relaxed bank attitudes to lending.

Those had to end at some point and they have probably now done so. No problem there.

However, there are two reasons to worry that the turning point we've arrived at may result in significant problems.

First, there is a risk that a small degree of incipient inflation has been allowed to creep into the economy, which will make it hard to manage the changes occurring.

It's not obvious yet, but with inflation starting this difficult period just above target, and with energy and food prices rising fast, we can't dismiss it.

Indeed, if inflation is an issue, a mild repeat of the 1990s experience may be necessary to get rid of it.

But secondly, even if inflation is not a problem, we might be in for a difficult period. The Bank of England will have more room to cut interest rates, but lower interest rates are not a very powerful lever against certain forces. It can be hard for the Bank to engineer a controlled slowdown.

Once falling house prices take hold and consumers decide to save, there may be nothing monetary policy can do to get them spending again. In fact the best proof of that is that monetary policy has struggled to contain the boom in house prices enjoyed over the last few years. If households believe they need to save, to repair their personal balance sheets, there will be little point in trying to get consumers out into the shops again.

Now this raises the risk that even with more interest rate cuts, the economy can run out of steam, and then get itself into a downward spiral. A slowdown causes job losses, which causes more slowdown and more job losses.

On my recent trip to New York one economist, Jan Hatzius of Goldman Sachs, made the point that we should regard the words "vicious circle" as a pretty good definition of what a recession is. Once it takes hold it can be hard to stop, as the Japanese found out when their own share and property price bubble burst in the early 90s.

This is where the credit crunch and the difficulties of the banks come in. I suspect these are not causing the economic turn we are witnessing because the turn had to occur at some point anyway.

But credit problems may well end up being an accelerant, transforming the economic drama of an inevitable house price correction into a full-blown crisis. If the banks are unable to lend, the economy will probably slow more than it needs to for the various imbalances to correct.

If things do go into a tailspin we have no idea how deep or how long they could last. If confidence collapses, there is no good economic model to tell us when it will be restored. That's the apocalypse scenario we need to worry about.

Now for the good news.

Things might go actually quite well.

The economy has momentum, companies in general are profitable and so have a little cushion to fall back on, the labour market has not yet suffered (and even if it does, unemployment may not rise because there is a large supply of migrant workers who may choose to move to other more successful economies instead).

Inflation may not turn out to be a problem and interest rate cuts may put a floor under the housing market, the credit crunch and the slowdown.

And it might be that a gentle fall in the value of the pound allows the economy to steam ahead, built on exports rather than on domestic consumer spending.

It doesn't all have to go wrong.

Does that mean we should not allow ourselves to be apocalyptic? Well, I've tended to use the earthquake analogy. If you live on a fault line, you should be wary of the horror of an earthquake, even if there may not be one.

And in the economy right now, we can hope for the best but need to prepare for the worst.

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