DABERIAM XXX

March 2007

The year progresses with turmoil in the world stock markets and a rush of analysts casting around for a better reason than that the steady rise of the last few years needed to stop for a breathing space. However, there is some justification for nervousness.

The small waves on the surface that are upsetting world stock markets do not seem to be connected to some underlying economic themes in the deeper ocean of the world’s economy. On the surface the global economy is slowing, which is good; but there is a risk that Central Banks could raise rather than lower interest rates, as there are deep inflationary pressures that are not appearing in the way current inflation numbers are compiled.

Superficial inflationary pressures look benign as the consumer markets around the world are still being supplied with the low cost production coming out of China and the other Asian markets. While Governments are claiming credit for the low inflationary environment, everyone is experiencing rising prices in services, transport, energy, etc. Virtually all commodity prices have risen dramatically in the last twelve months owing to under investment in the last ten years.

While labour rates are relatively benign in general, there is very considerable upward pressure in skilled areas. US and UK is running pretty much at full employment, as is Europe, if you exclude what one politically incorrectly can call, the unemployable part of the population. Even China is beginning to suffer in many regions from a shortage of labour while India has a huge pool of illiteracy running into hundreds of millions of people who are not employable in the modern industrial environment at a politically correct wage rate.

All this is putting upward pressure on consumer goods prices to add to price increases in other areas. Central Banks, with their eyes primarily on inflation, are faced with the dilemma of potentially unstable asset prices, housing, etc., and a burgeoning growth in private debt which is currently hitting the headlines as well as Corporate debt being created in the frenetic takeover activities of the financial engineering community.

The much talked about Sub Prime market that is the mechanism for financing the huge increase in personal and the venture capital debt, and indeed Government debt, could subside in a period of stagflation, or in the form of a debt crisis that would liquidate hundreds of billions of dollars and euros, so reducing the world’s free supply of liquidity.

These are very old-fashioned ideas from the 1970s and 1980s. It is always worth reading history even thought it may not repeat itself, psychology tells us that humans tend to repeat their behaviour patterns. 

Taking the risk of using an overworked word, there is I believe a new paradigm that has developed since the turn of the Millennium. Globalisation has connected the world in a completely new way. The World-Wide Web means knowledge and information is universally accessible instantaneously everywhere. 

The industrialisation of China, India and other Asian countries has meant the movement of goods on an unprecedented scale and the Web has provided for the globalisation of services in a way that was inconceivable even five years ago, and is still not fully appreciated. All this means that economic pressures are less likely to build up in individual markets and continents without everyone being aware of them. 

Add to this the application of computer technology to manufacturing and you have an expansion in the ability to produce goods of all kinds at an unprecedented rate without the usual build up of inflationary pressures. While the cost of all raw materials has risen dramatically the increased productivity has kept inflation very low. It is possible that the economic development that has been the experience of the last five to seven years will continue and because of the interconnected nature of the world’s economy, the pressures that have build up will subside within the normal mechanism of the world economic model. 

I remain optimistic that this is the most likely outcome - if you can see the icebergs, the captains of ships at sea do not normally run into them!

Damon de Laszlo 
March 2007