Hamish McRae: Oil and the US consumer will determine how this global growth story ends

The oil price surges past $50 a barrel, fears mount that Asian central banks will cease to pile up dollar securities - and the dollar duly falls, pulling equity markets down with it.

The oil price surges past $50 a barrel, fears mount that Asian central banks will cease to pile up dollar securities - and the dollar duly falls, pulling equity markets down with it.

So what is new? Well, in one sense, nothing really. The last few days have seen a return to the jitters of late 2004. After several months of relative dollar strength, a slightly weaker oil price and strong share prices, we are back to the same concerns that dominated the markets then. These include the US current account deficit and how it is being financed, the low American savings rate and the dependence on consumer borrowing, the nascent inflationary pressures and the rising interest rate profile.

The reaction to these concerns was that sooner or later the US would have to make a big adjustment, and that if that adjustment happened suddenly it would make life difficult for a world economy that relied on the US consumer to keep things going. Since the autumn, however, American consumers have carried on strongly, despite gradually rising interest rates. So no sign of much of an adjustment yet.

I suppose the big question is whether the fears of the autumn matter most, or whether the more relaxed stance of a couple of weeks ago is the more sensible attitude to tuck in your wallet.

There are several factors here. One is the oil price. It has suddenly perked up again, driven by strong demand rather than restrictions on supply. This has a big impact on both US costs (America uses roughly double the amount of oil per head as Europe) and on the current account (it is the world's largest oil importer). Most of the deterioration in the current account last year, together with some of the rise in inflation, can be explained by the price of oil.

If the oil price comes back - as it did a bit at the end of the year - there is a direct benefit to prices. The latest consumer price index, for January, was better than expected largely because of a fall in energy prices. But if the long-trend of the oil price continues to head upwards, as it did through last year (first graph, using a logarithmic scale), then the worries will continue to head upward too.

But of course, while oil is important, consumer demand is more so. The next graph shows a relationship, spotted by the Bank Credit Analyst people in Montreal, which I had not noticed before: between US consumption relative to total world output, and the US trade balance. US consumers are not only consuming a higher proportion of US output; they are also consuming a higher proportion of world output, some 10 per cent more in fact when compared with the early 1990s. The mirror image of this is the deterioration in the trade balance.

The next graph shows one consequence of strong US consumption and consequent current account deficits, this time over a longer period. Until the early 1980s the US was a net creditor nation. It owned more assets abroad than foreigners owned in the States. But since the mid-1980s it has been a debtor on an increasingly massive scale. In part that has been financed by private capital inflows - everything from Britons buying holiday homes in Florida to Toyota building a plant in Indiana - but most recently it has relied on foreign central banks piling up their holdings of US Treasury securities (next graph). Instead of the foreign private sector investing in real assets, the foreign public sector has been investing in paper ones.

All these concerns are widely known. Yet the fact remains that the US economy is the fastest-growing of the G7 - the UK is the second fastest - and just about every bit of new evidence that comes along suggests that the second and third largest economies, Japan and Germany, are hardly growing at all. Why invest in slow-growing economies when you can invest in a fast-growing one?

The only way to try to balance the gloomy view with the more hopeful one is to stand back. If you do, you see that the voracious US consumer has been at full cry for 15 years at least, while the US has been an increasingly large net debtor for more than 20 years. So the forces we are looking at are very well established. This is not a function of the Bush presidency or indeed the Clinton one. Once trends are so established it takes lot to unseat them. And it is not in the self-interest of anyone - the Japanese government, American consumers, the Federal Reserve, whatever - to have some sudden adjustment, where America cuts its import bill ... and plunges the rest of the world into recession. (In the case of Japan, read "even deeper into recession", as it is already in one, yet again.)

So what should the sensible outsider conclude when he or she sees yet another story about a plunge in the dollar? Surely it should be that both the boom story and the gloom story are equally valid. It is largely a matter of fashion which one is currently top dog and which the underdog. This unsatisfactory and unstable situation could continue for quite some time: certainly for another year and maybe longer.

What does, however, become clearer every month is the way the current global growth phase will end. It will end when one or more of several things happen. One is that the US at some level decides that it will not remain consumer of last resort to the rest of the world. Another is that Japan and/or China decide not to carry on buying US assets at a sufficient rate to cover their current account surpluses.

It is impossible to see the detail of the run into the next downturn, nor the timing, nor whether it is a gradual adjustment or a sudden one. What we can see - and I think this is clearer now than it was in the autumn - is that we are already on a glide path. There are several things to watch for, things that will give us a feeling for the next cycle.

One is the price of oil. If it eases back, everything should become more relaxed. If it carries on climbing, then things become gritty. A second is the response of the US consumer to rising interest rates. If there is a gradual shading back of demand, again everything becomes easier. If there is a sudden downturn in confidence (which I do not expect) then there will be trouble. And if Asian central banks really did pull back their investment in US securities (again, that would be a surprise), then things could get very tough indeed.

Big message: watch oil and watch the US consumer. They will tell us how what has been a period of very strong global growth (though not for Japan or the eurozone) will come to an end.