Morning:
8°c
When the Asian markets collapsed in 1997, and the following year when the threatened collapse of American hedge fund Long-Term Capital Management looked set to take with it a significant slice of Wall Street, the US Federal Reserve slashed interest rates to restore market confidence.
It sent a signal that it would do all in its power to stop the economy going into recession. With the approach of the year 2000, authorities everywhere were in a flap because they feared the world's computers would stop working when the date changed to a new century and this might paralyse the world banking system. So they flooded the markets with even more liquidity. That easy money poured into the stock market and fuelled the dot-com boom.
When, after an astonishing run, that technology bubble burst and the resulting collapse in markets and confidence threatened once again to send the US economy into recession, the Federal Reserve's Alan Greenspan cut interest rates even further and held them at rock bottom for even longer. An even bigger tidal wave of cheap money was created, and this found its way into housing and set off the property bubble.
That lasted even longer than the technology fad, and created an even bigger mess when it burst. The response to this latest recession, not just in America but round the world, has been to slash interest rates to zero and to deliver still more stimulus by printing money under the policy known as quantitative easing. So the world is now awash with even more money than it was after the two previous busts. We will have to wait for the minutes to know the full story, but yesterday's meeting of the Bank of England's monetary policy committee gave no indication that there would be any change in this policy any time soon.
The purpose of this is not to criticise the policy - though it does seem rather like giving free whisky to an alcoholic to put off the pain of having to dry out. Rather it is to highlight the parallel between what caused the earlier bubbles of the last 10 years and what may be happening now. The idea behind QE is to keep interest rates low and to give the banks access to funds to create the conditions in which they will start lending again and credit will begin to flow through the economy.
The policy started in March, just as the stock market hit its lows. However, what we have now is little evidence of significantly more bank lending but massive evidence, in the form of a 40% rise in six months, that money is finding its way into the stock market. More than £140 billion has gone into the economy since March, and a lot of it has certainly been re-deposited by the receiving banks in the Bank of England where it is safe but performing no useful purpose.
Some of it has also fed into the commodity markets, where much of the price rise in oil and precious metals has been driven not by end users but by financial speculation. But that does not account for all of the money, and the question we should ask is how much of this bounce in share prices is fuelled by genuine investment demand because people think the economy is on the mend and the prospects for companies and profits have improved, and how much is simply because people have money burning a hole in their pockets and have to put it somewhere. In short, is the stock-market rise yet another asset-price bubble fuelled yet again by the actions of the authorities in pumping vast amounts of money into the system?
And if it is, what happens when quantitative easing comes to an end?
House prices aren't on the mend
The latest data from the Halifax yesterday confirmed a continued slight recovery in house prices, and all things being equal would appear to add to the impression that the pressures on the sector are easing. As such it chimed with a lot of other data coming out of the sector in recent weeks.
A lot but not all. Yesterday also brought news of a study produced by the economists at Fathom Consulting which painted rather a different picture. It analysed the prices achieved by properties sold at auction during the month of August and it found that on average these were selling for 30% less than the equivalent property might have been expected to achieve had it been sold in the conventional way through estate agents.
This in itself is not a surprise because prices at auction usually are lower. What might be significant, however, is that the 30% discount compares with a shortfall of only 10% when the same exercise was done on the batch of auction sales which went through in May. This suggests that there is less competitive bidding at the auctions and therefore that for one reason or another there is a reduction in the underlying demand for houses.
This could, of course, be just because it was August. But it could also be that people are struggling to get finance, or that they expect further falls and better bargains if they wait. What it does not do is suggest prices are definitely on the mend.
