Bill Jamieson: Hindenberg Omen haunts markets

Published on Thursday 26 August 2010 13:58

DO YOU wake up at night terrified by a Double Death Cross? Does the fearsome McClellan Oscillator bring you out in boils? Are you spooked by the dreaded Hindenburg Omen?

That these arcane and sinister terms of financial analysts have started to worry markets is enough. They are said to be the precursors of a Crash. Yes, another one. A few years ago markets paid little attention to these signals. But after Nicholas Taleb's book on how outlier events are more likely than we think, a state of febrile apprehension prevails. Who dare shrug off such signals now? Anything could be the next Black Swan.

Welcome to what is called, without irony, "the new normal". For even without crosses and oscillators and omens, there are real developments to worry about this autumn. They are not at all 'outliers'. And they could have a devastating impact on the UK.

Evidence mounted this week that we may be heading for a 'double dip' relapse back into recession. Worse than expected data on US unemployment, followed by figures showing that house sales in America slumped 27 per cent last month to a 15-year low, point to trouble ahead for the world's biggest economy.

Wednesday brought news that the growth in durable goods orders had tumbled in July, pointing to a fall in business confidence. Shares plunged as investors scrambled to the relative 'safety' of government bonds. The yield on US government bonds fell to its lowest since the height of the crisis in January last year.

Japan is the example central bankers most fear. Monetary policy has been kept ultra loose but deflation has persisted - and the economy has stalled. Its easy money policy is touted as a model - but Japan is the only major advanced economy to see a falling price trend entrenched during a downswing. If excess risk was the rocket fuel of the banking debacle, then an excess of risk avoidance could lead us, like Japan, into a lost decade of low growth and stagnation.

More immediately, if confidence in the US recovery starts to evaporate, that loss transmits quickly here. And this could have severe consequences for the UK for this simple reason.

An early and sustained recovery is critical for the coalition government's deficit reduction. If that recovery is stalled or delayed, the more prolonged the already problematic gap between the shedding of jobs in the public sector and an upturn in the private sector. And the more evident this gap, the greater the likelihood of coalition support for the fiscal tightening programme starting to fray.It is already under attack from special interest groups and lobbies with increasingly vocal opposition to cutbacks in their own organisations and budgets. "Fairness" is the card being used to trump debt reduction.

This week also brought a glancing blow from an Institute for Fiscal Studies report claiming that poorer households will be harder hit by the budget than wealthier ones. Disputed though the figures are, the charge sticks. Others warn that the coalition's spending cut proposals could now be vulnerable to legal challenge from minority groups.

For dozens of Liberal Democrat MPs, already miserable about being in coalition with the Conservatives and the effect of unpopular spending cuts on their already weakened poll ratings, the IFS report adds to their agony. The Spending Review is still almost two months away. There is ample time for protests over "fairness" to rise in volume and intensity. One by one those spending cuts will come under fire.

But this is just the beginning of our problems. If already febrile markets sense a weakening of the government's resolve, market interest rates will rise, undoing the gains of the summer and presenting the coalition with a deeply worrying convergence: a slowing economy, rising welfare spending, a growing deficit, a slump in sterling, a bond market panic - and rising rates of interest on government debt.

This is a nightmare scenario of a type that would cause the most resolute of governments to buckle. But for a coalition government dependent on support from a large number of Liberal Democrats who are closet 'tax and spenders', it makes the collapse of the government a serious prospect.

This would be the blackest swan of all: not just an omen or an oscillator, but a Perfect Storm. For a country with an estimated one third of its population dependent on welfare benefits of one form or another, and public debt already on track to hit 1.3 trillion even assuming those public spending cuts go through, we will have arrived at an ultimate Moment of Truth: a spectacular unravelling.

It gets worse. There is no evident prospect that the Labour opposition - whoever is leading it - has any more credible plan to get us out this hole. Indeed, once brought to the brink of this abyss, what alternative is offered by the deficit deniers? The debt figures don't change just because a different set of faces walks through the door of No 10.

Whichever Miliband it is, or Ed Balls, or Andy Burnham or Diane Abbott, none looks to have the appetite, or the will, or the persona to play the part of a modern day Denis Healey or Philip Snowden. What new spending ploys could they present as Keynesian stimulus solutions - on top of the ones that have emptied our coffers? They're bust before they start.It is just this prospect of crisis opened up by the convergence of growing political resistance to spending reductions and a recession relapse that would bring the UK to the edge of an economic, political and constitutional abyss.

The balance of opinion is that a double dip will still be avoided - but signs of slowdown are evident, and the odds on a relapse are shortening. Ironically, it is just this project that may scare the coalition into an otherwise unlikely unison: fear of falling apart will hold it together more than any chancellor's debt statistics or IFS household income bar charts . The dictates of survival will trounce a full hand of fairness special pleading.

Tax cuts, not tax increases will become the priority. More immediately, the Bank of England could step in with more Quantitative Easing, particularly if the US Federal Reserve points the way in the next few days, mitigating a relapse but stacking up the risk of an inflationary conflagration in the medium term.

But that's the day after tomorrow. Today it is Death Crosses, oscillators and Hindenburg Omens. Lurid though the coloratura of chart analysis may be, it might just be capturing the perfect storm into which we are headed.