August 29 1998 Markets are not in crisis yet, says Anatole Kaletsky
Don't cry wolf at the bear
The moral of the story about the boy who cried wolf was not just that little boys should desist from raising false alarms. It was also that a wolf did finally come out of the forest and eat the boy.
The prosperity which has been enjoyed, at least in America and Britain, since the early 1990s has suffered plenty of setbacks, triggered by shocks that have ranged from the bankruptcy and collapse of entire Asian nations to worries about the euro and sex scandals in Washington.
Each time economists and investment analysts have cried "wolf", noting the parallels between the present period and the great bull markets that preceded the World Depression of the 1930s. But these prophecies of doom have consistently been proved wrong. The question now, as traders and investors take a two-day breather after another week of carnage in financial markets, is whether the happy experience of previous stock market setbacks will be repeated.
The most honest answer is that nobody knows. The world's most important financial prices - above all, the New York and Tokyo stock market averages - are poised on a knife edge. Small movements in either direction could multiply quickly into huge losses or gains.
If Wall Street falls by a further 5 per cent or so, the selling is likely to snowball, pushing share prices in America, Britain and Europe at least 30 per cent below last month's peaks. Even such losses, which would wipe out all the gains made since early 1997, would constitute only a very modest bear market
by historic standards. Yet such a setback, which would also hit property prices in financial centres such as London and New York, could certainly damage consumer confidence and economic growth. Of course, if the bear market turned into something much fiercer - with losses comparable to the 70 per cent suffered since 1990 by investors in Japan - the impact would be much more severe.
Yet the balance of economic analysis and experience still points to a reasonably benign conclusion to this week's events. The fundamental reason for the setback in the markets is unconvincing, since Russia's bankruptcy will have only a minor impact on world financial institutions. Even in the unlikely event that the new Russian Government adopts a more aggressive stance, additional military spending may not be harmful in economic terms.
More fundamentally, because of the absence of inflation and by applying the principles of Keynesian economics that were simply not known in the 1930s, governments and central banks would be freer today than they have been for generations to support their economies with lower interest rates and taxes.
So it is unlikely that this setback will trigger a recession or even mark the start of the long-awaited bear market. Provided Wall Street can stabilise in the next day or two, prices will probably recover. A bear market and recession will eventually happen, but they are less likely to be triggered by events in Asia and Russia than by domestic inflationary setbacks that Western authorities fail to recognise or cannot offset with lower interest rates.
There is a final reason for optimism in the sheer perversity of financial expectations. The analysts and pundits are very unlikely to be shouting "wolf" in a deafening chorus when the real wolf finally slinks out of the woods.