In the City
An evil conjunction
Tony Rudd
When Mars is in conjunction with Venus and the Great Bear is simultaneously on its back astrologers mut- ter about the possibility of some cosmic col- lapse. It doesn't have to happen, but certain coinciding circumstances can, apparently, tune up the risk to uncomfortable levels. The world commercial markets are in this state today. We don't have to have a disaster; it may be avoided by luck or good management or both, but what is happen- ing in the markets tells us that the risk of some really damaging event occurring is now quite high.
Recent events, taken individually, wouldn't matter so much but in combina- tion they look nasty. The worst is the new rise in American interest rates which businessmen the world over need like a hole in the head. It comes when all hopes are geared to the opposite happening, and when a great deal of money has been invested on this assumption the disappointment is bit- ter. It comes also when business is least able to afford the cost of rising rates; everywhere there is recession; nobody is earning the profits he would like or would be capable of earning in better times. It comes also when many companies really haven't got the money to pay the rates; the only thing they can do is to borrow even more to keep in the game.
What makes the situation worse is that inflation is now falling almost everywhere so that the real cost of interest rates is ris- ing; they would have to fall in money terms just to stay still in real terms. People in America say that they expect inflation to get out of hand again and that is precisely why the market is insisting on such a high rate of interest; it is a premium, as it were, against the possibility of the whole thing going wrong again. Paradoxically, recovery in inflation is precisely what a majority of businessmen in America and the UK are praying for because otherwise the real cost of their mounting debt is going to crush them. And, judging by what world markets are saying, there is still a good deal more deflation to come before we get back to reflation. This is what the commodity markets are signalling. The prices of metals, soft commodities and the classic things which people hoard to put under their beds, like gold, silver and diamonds, are falling daily to new lows. The message also seems to have spread to the stock markets; even the London market, which tends to live in an enclosed world, is now falling.
This is the kind of situation in which analysts and bankers give off opinions like a turkish bath generating vapour. They can't stop themselves. The general view ap- pears to be that we are heading for the final 'bottom', from which springboard recovery will be induced. Two points can be made about this. First, this is the expedient opi- nion which those who earn their living in the financial world can be expected to hold; they would be the last to say that we are about to enter a long sustained period of recession comparable with the great depres- sion. Secondly, the classic way to make money since the war has been precisely to wait for a point of real crisis to develop and then to take the contrary view and plunge 'It's in the rotten food guide.' in. The only problem with that prescription is that although we may well be arriving at a turning point of importance, the corner which we shall be coming round may not resemble anything we have experienced in the last thirty years. We may suddenly find ourselves driving not on the left but on the right side of the road and only those drivers who quickly perceive that conditions have radically changed will avert nasty head-on collisions. For we may be, indeed, coming into a new phase in the world economy which doesn't resemble the post-war period at all.
The new phase could turn out to be one of deflation both of demand and of prices. If this were to be the case, the problems which we would face in the western eConomies would require a radical shift in the attitudes and priorities of policy-makers if they were to be dealt with successfullY. The same obviously goes for investors. Brought up on the story of perpetual infla- tion in which investment in property and in most shares must eventually be right whatever happens, investors could find their cherished notions absolutely wrong for the new scene. Why should people accept a lower yield for equities than for fixed interest stocks if inflation comes down to low single figures? Things were the other way round until the late Fifties and they could switch back again. Why should peo- ple accept a yield on agricultural land and prime London property equivalent to ap- proximately one third of what they can get on US government bonds if inflation is not working on their side? There were very long periods indeed during which investors far preferred holding consols to having their money in land.
The problem for investors is that radical thinking of this kind is so difficult to em- brace. To begin with, very few of the pro- fessionals who are in the business of packaging and selling investments either to the public or to the institutions are par- ticularly keen to see their cherished views challenged. They are selling products which have sold well in the past; they are geared to this activity, and changing its nature or, worse still, shutting it down is hardly something they can contemplate with equanimity. There is a vast vested interest in assuming that everything is going to get back to normal and that the unit trusts, pension plans, assurance-linked bonds and all the other massive paraphernalia developed in the Sixties and the Seventies are going to be as relevant in the future as they were in the past.
What has been happening in Wall Street these last few years suggests that this com- fortable assumption may be wrong. There investors' preference for safety or at least a very low risk has led to a massive growth in the 'money market' funds, which are, basically, unit trusts invested in very short- term paper, mainly treasury bills. Investors have been deserting shares and property in droves and piling into the new instruments. Perhaps what they can see coming is the true nature of the depression.
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