Investor/An insider's guide to the market: The rising tension in the Middle East with its immediate impact on the oil price has injected another layer of risk to already fragile investor sentiment.

Heightened geopolitical risks have added to worries about the future path of interest rates and US corporate earnings and led to general falls in share prices.

The prices of government bonds in Europe and the US rallied as investors diverted funds to these safer assets.

These recent falls in share prices would therefore seem to be due to an increased risk premium associated with geopolitical trends. The Middle East conflict, tensions over Iran's nuclear capability and the deteriorating situations in Iraq and Afghanistan, are combining to pose a serious threat to global stability.

As well as geopolitical developments, investors have had to absorb a steady flow of new corporate and financial information.

As expected the Bank of Japan decided to raise its main interest rate from zero to 0.25 per cent on July 14th. This is the first time that the Bank of Japan has raised rates in six years. The roots of Japan's economic problems go back to 1991 when, after two decades of strong economic growth, the Japanese economy was characterised by a bubble in property and other asset prices.

Rising interest rates in the early 1990s led to a collapse in equity and property prices which was followed by a long period of deflation, beginning in 1995. Deflation, which is a generalised fall in prices, tends to have a depressing impact on an economy.

Borrowers are pushed further into debt and companies may try to cut wages to compensate for lower output prices, leading to a downward spiral in incomes and consumption. By the late 1990s the central bank had cut interest rates to zero and aggressively added liquidity to the monetary system. Despite this effort, Japan has only recently emerged from its decade of deflation.

In fact Japan's politicians and several respected private sector economists argue that the Bank of Japan has raised rates too soon.

Price inflation is only barely above zero and there are fears that corporate profit growth is about to slow. Recognising this fragility, the Bank of Japan was at pains to emphasise that it had no intention of following on with a series of rate rises.

On a medium-term view it now is clear that short-term interest rates will be rising in Europe and Japan, albeit at a gradual pace.

Rates in the US should stabilise around current levels, although the risks remain to the upside. This trend towards higher borrowing costs is likely to gradually drain liquidity from the world's markets and should result in the removal of speculative excesses.

More parochially, data regarding the Irish economy confirms what most of us already know - the economy is booming. Growth in GNP was 7 per cent year-on-year in the first quarter, which followed growth of 7.4 per cent and 7.3 per cent in the final two quarters of 2005, respectively. Consumer spending rose 6 per cent year-on-year, housing investment jumped 12 per cent and non-residential building increased by 15 per cent. The total number of new homes built in 2005 is now estimated at 86,000.

The boom is now impacting on inflation and there is clear evidence of significant upward pressure on services inflation. In June the headline annual inflation rate remained at 3.9 per cent. The June 8th ECB rate hike of 0.25 per cent will not be reflected until July, making it likely that the July figure will exceed 4 per cent.

The rate of price inflation across a range of services, including hotel accommodation and eating out, has jumped in recent months. With further interest rate rises to come and energy costs set to rise again, the headline rate of inflation seems set to remain above 4 per cent for the remainder of the year.

If this inflation rate is sustained then it will eventually have a negative impact on Irish competitiveness. In the meantime the current economic environment is favourable for corporate profitability and quoted Irish companies have exceeded profit forecasts so far in 2006.

With the Iseq Overall index now flat year-to-date, rising profits have resulted in a gradual lowering of the price-earnings ratio to a value of just over 13. With company profits set to perform well for another year or two, this is an undemanding rating and signifies that the Irish market continues to offer long term value.