Recession waxing and waning before looming
Monday, 28 January 2008

Investors all over the world are now watching the Wall Street with some trepidation and are reassured neither with the Fed's slashing of the short-term interest rate by three-quarters of a percentage point nor with a package of $150 billion in tax cuts and other fiscal stimuli President George W Bush has proposed as fears are deepening that a possible recession in the United States would have knock-on effects for other economies

Maswood Alam Khan

ANALYSTS in the capital markets talk in esoteric and ambiguous terminologies when the market is volatile. They carefully watch their tongues so that their words describing the volatility don't fright the investors. Phrases like 'stock crash' and numerals like '1929' they fear to utter as the word 'crash' may cause shareholders stampede and the number '1929' may remind people about the 'Year 1929' causing panic among consumers and investors.

It was, as everybody knows, on October 29, 1929 when $30 billion (ten times more than the annual budget of the then US federal government, far more than the United States had spent in all of World War I) had just evaporated into smoke from the US capital market due to stock crash.

Investors before buying shares judge the company's health profile not only by their audited income statements and periodical financial reports; they also read fellow citizens' mass behaviour and decipher economic messages hidden behind each political event. Investors in the US even shadow the chairman of the Federal Reserve for a clue – how he talks, how he smiles, how was his facial expression after his attending a vital meeting, what brand of coffee he prefers, etc – to forecast their shares' price that may fluctuate on the Federal Reserve's decision on interest rates.

But, problem arises when investors get panicked and a domino effect of a panic makes economic theories and the Federal Reserve's interventions all futile, leaving the market to play on a theorem known as 'chaos theory' based on chaotic market behaviour.

Last Monday US crude oil was sold at $88.92 a barrel – a drop of 10 per cent in a matter of 18 days. The MSCI's main world stock index (a benchmark gauge of stock markets globally) was down 2.9 per cent. The pan-European FTSEurofirst 300 was down 5.8 per cent. Nikkei average (Japan's benchmark) was down by 3.9 per cent. Gold was sold at $868.60 per troy ounce compared to $881.90 on Friday and $914 last week.

Other commodities, such as precious metals, also plunged. Many indexes around the world were more than 20 per cent below their recent cycle peaks. So was on Monday the picture of the US, the biggest consumer of the world in the backdrop of the possibility of an impending US recession in the wake of a downturn in property market that has exposed banks to billions of dollars of losses and caused a generalised tightening of credit to business and consumers.

The word Monday, however, brought back to the losers a chilly evocation of Black Monday of October 28, 1929. On Wednesday US Federal Reserve slashed the short-term interest rate by three-quarters of a percentage point with a view to keeping plummeting stock markets around the globe from threatening the international economy.

The Dow Jones industrial average was down 218.91 points, or 1.83 per cent, at 11,752.28. The Standard & Poor's 500 Index was down 28.31 points, or 2.16 per cent, at 1,282.19. The Nasdaq Composite Index was down 72.36 points, or 3.16 per cent, at 2,219.91.

After initially falling nearly 450 points on Wednesday morning, the Dow Jones Industrial Average was down 157 points or about 1.3 per cent – relatively a minimal decline compared to 9.3 per cent fall in the Japanese stock market.

Lesser fall of the US market was attributed by market observers to the Fed's emergency rate cut. Speculators, such as hedge funds, are becoming nervous. The global equity market weakness is prompting currency investors to liquidate their risky positions and demands for safe-haven government bonds are rising.

Such falls sometimes signal to general investors that it is time to buy. To consumers like us downward prices of commodities and services also sound good. But the descending trend, if continued for a few weeks more, will send an ominous signal to an economist: people would soon stop buying goods and services and start selling whatever they assume may further depreciate in value in near future, the first symptoms of a recession.

A slide into recession initially may herald sweet news for traders on gold as they know the Federal Reserve in their attempt to thwart recession would go for aggressive cutting of interest rates that would weaken the dollar – making dollar-priced gold more attractive as a safer investment. With increased demand for gold as safe-haven its price is also due to go up.

But, surprisingly the price is now falling. Maybe, investors are downloading their gold reserves en masse to buy stocks in the bearish markets on the expectation that much more aggressive slashes of interest rates in coming days would turn the markets bullish for stocks to yield a return higher than that from gold.

But, if stocks fall precipitously for long their bridge of dream while crossing the river of fate will be burnt in the midway, a telltale signature that recession is knocking just around the corner. Fear of recession in the US must chill blood of millions of Bangladeshis whose mere survival hinges on $3 billion worth of readymade garments exported to the US every year.

Bangladesh is already struggling in competition with giants like China and India to hold on her export share in the US. A slash in export of RMG to the US in the wake of recession will wreak havoc on our employment and foreign currency earnings at a time when our people are already suffocating with unending price hike of daily necessities.

With US economy contracting US customers would be outsourcing for cheaper goods and services in third world countries like India, Pakistan, Vietnam and Bangladesh.

Vietnam is now in an advantageous situation as their export-oriented industries – which are specially insulated against any extraneous or political disturbances – are producing goods and services at cheaper price than in any other country in our subcontinent. Bangladesh, as an emergency measure to fall back on, should weigh up alternative products and jobs which are essential but expensive inside the US, should RMG exports to the US plummet. The IT sector is one such area where Bangladesh, like India, may make a dent in US market.

Indian software and services exports to the US jumped 33 per cent to $31.4 billion in March 2007 and may hit $60 billion by 2010. During tidal cycles seawater rises up and up and stops during high tide at a point called slack water. The tide then reverses direction and seawater falls down and down and stops during ebb tide at a point also called slack water. Tides visit us in semidiurnal pattern – two high tides and two low tides each day. Likewise a nation's economy also follows a somewhat regular pattern of expansion and contraction.

The economy will typically expand steadily for six to ten years and then enter a recession for six months to two years. The point where the recession begins is known as a 'peak,' and the point where it ends is known as a 'trough.' Following the trough, the economy expands again toward another peak. Economists call the period of time between two peaks a 'business cycle.'

Anything of any kind may spark recession. Recession may, for instance, be kicked off by over-production – a situation in which the supply exceeds the nation's ability to consume. Confidence level of millions of consumers and producers plays another vital role in a recession. When consumers do not feel confident about the economy they buy less stuff. In response to decreased demand, producers lay off people and decrease consumption of raw materials. Unemployed workers have less money to spend, so demand decreases further. Employed workers fear they will lose their jobs, so they spend less money.

Investors fear the value of stocks will decrease, so they are less willing to invest in new companies. The whole economy is thus trapped in a vicious quagmire. History has proven that an economy will not keep expanding indefinitely – eventually it will contract for a while.

With economy contracting thousands of different elements move in a downward spiral with snowballing effects. For a plethora of reasons an economy may slow down and if such a slowdown continues for a prolonged period, say for six months, economists consider the limbo a recession that visits every nation in a periodic order the way sea waves splash the sea beaches in a rhythmic order of high and low tides.

If the recession lasts long enough, and is particularly severe, it is known as depression the way rising seawater engulfing inlands for a period of time is known as flood. When a recession grips a nation the government, especially in a free market economy, cannot single-handedly control the sliding economy.

The course of a nation's recession is controlled by the actions of everybody living in the country. Anything influenced by millions of people is beyond the control of one person or a group. Nevertheless, the government tries to restore public confidence by taking some fiscal and monetary measures.

Tax cuts, increased public spending, unemployment insurance, etc are few of the fiscal measures and allowing commercial banks to reduce their reserve ratio with the central bank, lowering the discount rates, etc are few of the monetary measures that may elevate public confidence in the economy and help ease the recession.

Investors all over the world are now watching the Wall Street with some trepidation and are reassured neither with the Fed's slashing of the short-term interest rate by three-quarters of a percentage point nor with a package of $150 billion in tax cuts and other fiscal stimuli President George W Bush has proposed as fears are deepening that a possible recession in the United States would have knock-on effects for other economies.

A key question pundits and economists of late are asking: 'If America sneezes, does the world still catch a cold?' The answer, probably, is: 'No, not that much.'

The emerging countries in Asia and the Middle East weathered many economic storms in the recent past, thanks to their huge reserves and steady GDP growth compared to many western countries. Some of the state-backed investment funds of Asia and the Middle East recently even helped recapitalise a number of struggling banks in western countries.

In the end, time has proven that attitudes and economic factors ultimately shift, and every recession is a temporary phenomenon.

Eventually, things turn around and an upward spiral is re-established the way floodwater recedes and lands resurface for life to restart with renewed vigour. Hope, with recession stalking the western hemisphere 1929 will not knock at all the doors of the whole globe.

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