Soft or hard landing? This is the question that has preoccupied global investment strategists for mo...
Soft or hard landing? This is the question that has preoccupied global investment strategists for months now. It is indisputable that the US economy is slowing down, but everyone is now focused on the pace and depth of that slowdown.
So, with Greenspan's 50-basis-point interest rate cut, has the Federal Reserve chairman done enough to engineer a soft landing?
Opinion is sharply divided. A rapid slowdown would have serious consequences for the US and world economies. It would raise the cost of capital and dent confidence, thereby reducing investment, productivity growth and profits.
Capital investment, mainly spending on information technology, has been the primary impetus behind US expansion. Since the mid-1990s, expenditure on IT equipment has grown at 20%pa, boosting labour productivity. This productivity growth has helped keep inflation down. Profits and share prices have also been boosted, keeping the cost of borrowing low, and leading to further investment.
Signs started to appear early in 2000 that this virtuous circle was in danger of being broken. The dot.com frenzy began to wane in March, soon followed by a spate of high-profile profit warnings. This fuelled the pessimism - and by late 2000 the Nasdaq was in freefall.
Against such a backdrop, most commentators expected interest rate cuts, however, the timing of the move caught most observers on the hop.
Some suggested it was a panic move, while others applauded the Fed's decision.
So, returning to the original question: are we more or less likely to see a hard landing?
The pessimists say more likely, pointing to the recent lending boom. The savings rate is less than zero, the trade deficit is huge, and the dollar is unsustainably high - leading people to believe that a hard landing may be the price to pay for past profligacy.
However, there remain ample grounds for taking a more optimistic view. The fall in the broader US indices - the Dow and the S&P500 - has been much smaller than that of Nasdaq. As wary technology investors sought a safe haven, they shifted back to the old economy. Of the 87 industry groups within the S&P500, 59 actually posted gains in the last three months of 2000.
Rather than a hard landing, it is more likely we will see a gradual slowdown. Six of the top 10 S&P sectors are still forecast to report improving year-on-year growth rates for 2001. Even the battered technology sector is predicted to deliver earnings growth of 14. It is difficult to understand why we should believe a recession is close.
Historically, a rate cut has been bullish for US equities. However, interest rate cuts will take time to give a fillip to the stock market.
Elaine Heaton-Armstrong, head of US desk of Aegon Asset Management
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First mentioned in Cridland Report
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