Events, data make situation look far worse than it really is
By DOUGLAS GOOLD, The Globe and Mail
Friday, September 14, 2001
Horrible news continues to roll in on all fronts. The death toll from Tuesday's attacks is rising, the outline of a large, well co-ordinated terrorist organization in the United States is becoming clearer, and the prospect of war looms large.
On top of all of this is further, bad economic news. Yesterday, the widely followed University of Michigan consumer sentiment index fell to its lowest point since March, 1993.
That appears to put the nail in the coffin for consumer spending, generally viewed as the sole remaining support for a shaky economy.
To make matters worse, the survey was taken just before this week's attacks; a survey taken today would almost certainly produce even poorer results.
Fortunately, this unhappy juxtaposition of events and data makes the situation appear far worse than it really is.
The University of Michigan result, for example, will simply put more pressure on the U.S. Federal Reserve Board and on other central banks to continue to lower interest rates and provide liquidity.
On the heels of Wednesday's decision by the Fed, European Central Bank (ECB) and Bank of Japan to inject $120-billion (U.S.) into the system, the Federal Reserve Bank of New York announced yesterday that it would make up to $50-billion available to the ECB "to help meet dollar liquidity needs of European banks, whose U.S. operations have been affected by the recent disturbances in the United States." Clearly, the central banks, the key to the monetary system, are determined to ensure that the global financial system will not grind to a halt because of a lack of credit.
In any case, history suggests that markets plunge during crises but recover quite quickly. Ned Davis Research of Venice, Fla., studied 14 major disasters since the fall of France in 1940, including the Cuban Missile Crisis and the Gulf War, and discovered that the Dow Jones industrial average was up an average of 2.1 per cent three months after the event and 6.6 per cent six months later.
Since 1987, we have faced a recession and a series of major market crises: the 1987 crash, the Gulf War, the Mexican peso collapse, the Asian meltdown, the Russian default, and the Long Term Credit Management debacle. Yet the longest bull market in history remained intact until last year, albeit with a few worrisome interruptions.
It is easy to forget how dramatic these events were at the time, and to assume that today's crisis is infinitely worse (it is, of course, in human terms). The now largely forgotten Long Term Credit scandal was so severe, thanks to the hedge fund's huge leverage, that the Fed had to intervene, fearing a collapse of the global financial system. The point is that we weathered each of those crises (and Mexico, Southeast Asia and Russia regained their strength), and we can weather the current tragedy.
There is a final piece of big-picture good news, albeit a perverse one. It can be summed up in the phrase, "Investors have already suffered enough." According to Ned Davis Research, we have been in a bear market since the Dow topped out at 11,723 on Jan. 14, 2000. That means we have been in a bear market for 605 days, well beyond the median 374 days for all the bear markets of the past 100 years. While the Dow is only down 18.1 per cent from its peak, compared with the median 24.7 per cent, other indexes have done far worse, most notably Nasdaq (down 66 per cent from its March, 2000 high). If history is a guide, this bear market should soon show signs of coming to an end.
Nor is the current environment quite as bleak as it looks. First, the banking system is sound, something that was not the case a decade ago, when the big money centre banks in the United States tried to shake off the effects of a decade of reckless third world lending followed by overexposure to real estate.
Second, there are billions of dollars sitting in fearful investors' money market accounts, waiting for the first clear sign that it is again safe to invest in stocks. That moment is not yet on the horizon, but someday -- probably sooner than most observers think -- it will be.
Lastly, many of the highest profile economic reports that seem so glum, like the monthly U.S. employment numbers, are lagging indicators. The more forward-looking ones, such as purchasing managers' intentions (with its wonderful acronym, NAPALM), are a little more encouraging. And while U.S. unemployment has been going up, it's still only 4.9 per cent, historically a very low rate.
The wild card in all of this is war, which the U.S. public and politicians appear intent upon. The political and economic consequences of a war can never be foreseen, but they could range from an oil embargo against the West to further doses of terrorism.
Barring those grim possibilities, the global economy and financial markets are not likely to go to hell in a handbasket, though a full recovery may not arrive until the second half of 2002.
Douglas Goold is Editor of R.O.B. Magazine.