Evercore Pan-Asset

In recent months markets have had lots of down days. In the US and the UK, in Euroland and in Japan, the underlying worries are the same. Investors fear the recovery will falter, or at best will be slow and fitful. 

In the US there are worries that a continuing large deficit and more quantitative easing will not work. The patient could become inured to the same medicine, or may start to have unpleasant side effects from too much of it. Meanwhile in Euroland the worries are that public spending cuts will curb demand at exactly the time more spending is needed. You might think they can’t both be right, but maybe they can.

We know from bitter experience that overdoing the public borrowing can cause a crisis. Greece, Portugal, Spain, Ireland and the Baltic states amongst others have all had their creditworthiness queried by markets owing to high borrowing. All have had to make cuts to reassure markets that sometime, some day, their borrowing will be back to sustainable levels. If countries do not take action, the markets force them to pay ever higher amounts for their debt which in turn undermines their public finances more. No-one is yet seriously querying US credit worthiness. After all, they argue, the dollar is the world’s reserve currency. There always be someone who wants to buy it or hold it if Uncle Sam prints or borrows some more.

We learnt this week that China is diversifying her reserves. That means she wants to buy fewer dollars and more of other currencies in the future. It also means that even the USA has to run a plausible set of accounts. Big investors in dollars think they do have other options.

Meanwhile, in the EU several countries have learnt the hard way they need to curb spending and get their budgets back into shape. Their problem is that they must do so in a way which does not drive their economies back into recession. As they cut public spending, they need to make sure the incentives and the bank finance are available for the private sector to take up the slack. If the public sector sheds jobs, it needs the private sector to be there to hire people out of unemployment. If the public sector cuts its demand for private sector goods, they need others to buy them instead to avoid redundancies among the suppliers.

Economists and forecasters still assure us the world will grow this year and next. The main economies will muddle through, they say. The markets meanwhile are short of cash, as the monetary squeeze in the west continues, thanks to the way the banks are being regulated. It’s dull out there, but not yet dire. Much rests on when China decides she has cooled her economy enough. It was the massive Chinese reflation a year ago which helped markets higher.

As published in ‘Investment Week’