Preparing for next apocalypse

THERE is nothing unusual about volatility in fi nancial markets. After all, equity markets are currently in a state of paroxysm over tech stocks after a series of unconvincing initial public offerings on both sides of the Atlantic.

Compared, however, to the events in the autumn of 2008 – when, for a few dire weeks in the aftermath of the Lehman collapse, it looked as if the game was up for capitalism – markets have been reasonably calm. Even Greece has been able to return to the bond market with its $4bn bond raising.

The yield on the bonds of the euroland periphery in recent weeks has dropped to within touching distance of the American ten-year bond. It is an amazing turnaround.

George Osborne and other officials attending the G7, G20 and other finance sessions in Washington do not, however, believe that the current truce in markets is going to last and are preparing for a fresh period of intense volatility.

Three factors could affect and confuse the markets in the coming months. The first is the new geopolitical risk arising from Ukraine. The West is now limbering up to come in behind the regime in Kiev with a wide-ranging support programme valued as high as $18.3bn.

It will involve every global institution from the IMF to the World Bank and the London-based EBRD – but there will also be direct funding from Washington and Brussels.

While this may be good for the Ukrainians, and bring them some stability and certainty, it does risk stirring up the Russian bear – as if it needed any provocation.

A second area of concern is the normalisation of monetary conditions that will take place in the United States and in Britain over the next 12 months.

The potential damage was seen a year ago when the US first talked about tapering and provoked a huge outflow of capital from emerg- ing markets. As US tapering steps up momentum and interest rates start to normalise – with both the Americans and the UK expected to raise interest rates over the next 12 months – the chances that money will come flowing back to New York and London are extremely high.

There has been much talk here of clear communications, perhaps a reference to Federal Reserve chairman Janet Yellen’s faltering performance at her first press conference. But the scale of the flowbacks, along with the impact on emerging markets and the funds that invest in them, should not be underestimated.

The other big change being anticipated is in euroland.

At the moment, the European Central Bank is being coy about what measures it intends to take to head off an era of Japanese-style deflation, with the current inflation level across euroland down to 0.3pc. The IMF is pushing for earlier, decisive action that may include going to negative real interest rates, below zero, and unconventional measures such as Europe-wide quantitative easing.

This comes at a time when the US is pulling in the opposite direction, creating all kinds of awkward cross currents.

Predicting the course of markets is always dangerous, but volatility does have an impact on confidence. It is as well that policymakers have an eye on this particular ball.

Hitting back

GEORGE Osborne’s speech at the American Enterprise Institute is the first time he has directly sought to demolish the arguments of his critics and publicly develop his own economic thesis.

The core of the argument is that monetary policy, combined with a degree of fiscal austerity, was the right way to go when the Coalition came to power in 2010.

Essentially he is thumbing his nose at his American detractors, including ‘his friend’ former Treasury Secretary Larry Summers and New York Times columnist Paul Krugman, not to mention his number one domestic critic Ed Balls. Osborne has been careful to take his battle into friendly territory in the shape of a sympathetic conservative think-tank and with an opinion page piece in the free market Wall Street Journal.

He also directly takes on the Miliband-Balls thesis that somehow the link between living standards and growth has been severed.

He notes work at the London School of Economics, not a hotbed of conservative thinking, which shows there is no evidence that employee compensation has become detached from GDP in recent decades.

Touché.

Ping crazy

IF YOU want to know what is going on in the United States, the world and in global business, steer clear of CNN.

In a week when there was a stabbing in a Pennsylvania school, a horrific school bus crash in California and a gathering of the financial world’s top brass in Washington, CNN has remained steadfastly committed to reporting and analysing every last ping of the Malaysian airliner MH370 saga.

Ratings driven or what?