The message from this week’s market rout is crystal-clear: investors have lost confidence in their politicians, who urgently need to do something dramatic to reduce risks to the global economy. By some measures, the world economy is in better shape to withstand shocks than it was in the aftermath of the failure of investment bank Lehman Brothers nearly three years ago.
Corporate earnings are robust, banks have thicker capital cushions, big emerging markets are still expanding strongly and there has been no repeat of the global liquidity squeeze that sent the dollar soaring in late 2008. Indeed, after this week’s 8.5 per cent slump in global equities, a rebound might not be far off. Wall Street initially rose Friday after the US economy created 117,000 jobs last month, more than expected, only to slide back into the red. Any relief is likely to be short-lived until politicians get ahead of the markets and show they are tackling the root cause of the malaise — excessive sovereign debt.
“People have just become spooked by a crass failure of political leadership,” said George Magnus, senior economic adviser at UBS in London. In Magnus’s view, the first-half slowdown in US growth — an important contributor to the current loss of confidence — was inevitable given how long it will take households to reduce their own debt mountain and rebuild savings. But he said markets wanted an end to the “political dysfunction” all too evident in the protracted wrangling over the US debt ceiling and the euro zone’s inadequate response to the debt crisis gripping the periphery of the 17-member group.