We have long been of the view that the global economy is slowing dramatically, and that recession is...
We have long been of the view that the global economy is slowing dramatically, and that recession is imminent - or indeed a reality - in the US. In the past nine months, financial markets have also rapidly moved towards this view.
In the UK, the outlook is also less than rosy. There is an almost constant flow of negative housing market news. The fact that UK banks and building societies are reining in mortgage lending means house prices probably have a lot further to fall. All of this paints a grim picture of the prospects for the UK economy over the rest of this year and into next year.
Many commentators are of the opinion that economic slow-down will be accompanied by strongly rising consumer prices - in other words, stagflation. I disagree with this view. In the short term, inflation may rise as high oil and commodity prices may work their way into the year-on-year inflation numbers, but over the medium to long term, I do not believe inflation presents a major concern.
If you look at the banking crises of the past century, inflation dropped in the aftermath of each of them. In a global banking crisis, liquidity is withdrawn from the system and the availability of credit is significantly reduced.
What the credit crunch means is that corporate and consumer borrowing will be more expensive and more difficult. These are not inflationary outcomes.
Therefore, I believe the central banks need not worry about inflation, but they must stop the banking crisis from accelerating. US Federal Reserve chairman Ben Bernanke knows he must take measures to stop the credit crisis from getting worse, which is why we have seen US interest rates cut from 4.25% to 2% since the start of this year.
In the UK, interest rates have been cut to 5%, but the bond market is only pricing in one more quarter-point cut in the next 12 months, with none planned thereafter. This will be nowhere near enough to boost the ailing economy.
However, if rates fall by more than the market is pricing in - and I do believe they will - investment-grade bonds should enjoy a decent positive run.
- Recession is expected in the US, and the UK outlook is also less than rosy
- Inflation fears are overdone; the global banking crisis is more significant
- More policy action is needed to halt the credit crisis, particularly in the UK.
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