Tyndall Monthly Commentary

If one casts one's mind back to a little more than 12 months ago, global financial markets were in a buoyant mood.  The global economy was believed to be expanding and markets almost perversely were taking heart from the fact that many central banks were feeling confident enough to either remove their "special or extraordinary stimulative measures" or to even begin tightening their interest rate policies in the case of Trichet's version of the European Central Bank.  The Reserve Bank of Australia was also raising rates and, prior to the earthquake, it had been assumed that the RBNZ would follow suit as the NZ economy firmed.  Optimism was rife and markets seemed to have become almost "Teflon-coated" when it came to bad news - good data was being seized upon but bad news was being ignored.  As markets were subsequently to find out, the reality of the situation was very different and the rally was not being driven by economic fundamentals but rather by simple hope, relatively undemanding market valuations and a great deal of borrowed money as funds (including even once-conservative pension funds in the USA) sought to gain positive returns through the greater use of financial leverage.  Unfortunately, we today find ourselves asking whether history is once again repeating itself and whether the recent rally in markets is simply yet another triumph of hope and valuations (although not, on this occasion, leverage it seems) over reality.

If one looks at the global economy from the standpoint of the various and now high-profile purchasing-managers-type diffusion indices and even the ultra-short-time-span industrial production data, one can form a view that despite the concerns of the cassandras (and most policymakers we have encountered), the global economy is shrugging off the gloom of 2011 and moving forward, led, it seems, by the USA.  It is also significant that the (albeit still only partial) revival in manufacturing growth and output expectations is leading to a renaissance in several labour markets around the world.  What is less clear is whether this revival is a deliberate acceleration in the economy or simply a reaction to the overdone weakness of October-November, the unusual weather patterns, or the timing of the Lunar New Year that dominates Asian trends at this time of year.

In fact, we suspect that part of the optimism expressed in many of the confidence indices tells us more about human nature than economic conditions.  Recently, we addressed a small business group in the depths of suburban London and found ourselves explaining just what might have happened to the Global Financial System and the global economy had the Euro fractured unexpectedly in 2011Q3.  We drew attention to the 10 times global GDP that was outstanding in OTC derivatives last (northern hemisphere) autumn that might not have settled in the event of an EUR breakup, what this would have done to the banks and how this would have affected the availability of even working capital to real world companies, such as those represented in our meeting.  They were predictably horrified at what might have come to pass last year had the Euro Crisis accelerated further.  Had our audience been leaders of large German or US companies, though, then we suspect that we could still have scared them with the actual numbers but they would already have known the general themes and they would also have been aware that October-November witnessed something of a rout in Europe's economy.