Boom & bust?

Where is the economy going on? And equally important, in what timescale? I wish I knew!

Unemployment is up a whole 10% in the last quarter to 2.26 million. Yet there has been a bounce in the stock market, and our oh so short term memory is leading us towards the end of the recession. After the stock market collapse last year, people expected a bear market rally and that is what we have had. There has been a bounce in economic activity as businesses were forced to restock after cutting back so sharply last year. But the rally continued, and people have started to question whether this is a bear market after all. They wonder if the recovery is actually genuine. Surely this is what bear market rallies do – they suck in investors, stocks rise, until eventually there aren’t any buyers left, and stocks plummet again.

It’s always wise to consider the fundamentals. Any recovery in corporate earnings is probably short lived, because it has been made by cost-cutting, and by government spending money that we don’t have. At some point the economy must generate growth without the benefit of extra government money fuelling it, and cost-cutting in corporations can only go so far. What cost-cutting does is make life harder for businesses in the future. By all means cut out waste now, but remember on a countrywide scale that firing people leads to higher unemployment, which leads to less spending power, which leads to fewer sales for your company.

The general public is desperately paying off debts as fast as it can, and so are companies. I make no complaint – it’s what people should be doing, but people also need to be aware of the long term implications of this policy. Companies are doing everything they can at the moment to reduce their indebtedness, usually by selling more shares to their shareholders to repay debt. They’re not raising money on the market to invest in future growth. They’re even repaying debt when interest rates are low.
And it can clearly be seen that interest rates are likely to rise – look at the standard variable rate mortgages now, and what a building society will offer you as a fixed rate of two to five years in the future. There is about 1½ percent difference – higher of course. They expect interest rates to rise. So does everybody else.
Which in the long term tends to leads to inflation. The government will be pleased, because then it will be repaying at the enormous amounts of debt that it incurred in bailing out banks etc with cheaper money. We, as taxpayers, should be pleased as well because it will reduce the amount of time that we have to pay interest to the people who have bought this debt. But we as consumers will be paying out through an inflationary period in the longer term.

In the near term, we are still in a recession and there may be some deflation. In short, we’re back to boom and bust.