Turbulence in the international equity markets in recent days reflects continued uncertainty about the outlook for the world economy. Share prices fell sharply last Friday, after an unexpectedly sharp rise in US unemployment. European markets reflected this weakness yesterday, dropping sharply in morning trading.
Although Wall Street was somewhat more stable later in the day, further nervousness in the markets is likely over the coming weeks, as investors try to gauge whether the US economy can recover moving into next year. This has led to an intense focus on US economic figures, which are currently painting a confused picture about the outlook for the world' biggest economy. The next batch of important figures is due for publication on Friday.
The outlook for the US is crucial to the international economy. European economies are weak and Japan remains stuck in recession. The International Monetary Fund has reduced its forecast for world economy growth this year from 3.2 per cent to 2.7 per cent. Unless the US economy recovers moving into next year, then the prospects for the rest of the world are not good.
Many economists believe that successive interest rate cuts by the US Federal Reserve Board will spur a recovery in the US late this year and moving into 2002. Interest rates have been cut seven times - by a total of three percentage points - and further reductions are possible. As well as lower interest rates, US consumers have also benefited from tax rebates, which have recently been delivered.
Lower interest rates and tax rebates may provide the necessary boost to the US consumer. However the risk is that confidence will be hit by rising unemployment; if this happens then consumer spending will fall, leading to further difficulties for the corporate sector and triggering further weakness in the equity markets. There are also concerns about weakening consumer confidence in the major European economies. The European Central Bank could help here by further reducing interest rates.
Against this background of uncertainty, international equity markets are likely to remain weak and volatile in the short term. Further sharp falls are possible, particularly if US economic conditions weaken further. A nervous few months lie ahead, before it becomes clear whether the world economy can avoid an unpleasant downturn.