Stocks may be falling, but that doesn’t signal an economic crash

The gloom deepens a little further. By the end of last week shares were falling around the world: here, of course, but also in the United States, in Europe, and most dramatically in China. The oil price headed further down, too. The things that went up – the dollar and US bonds – were doing so because they were seen as safe havens in a sea of troubles. George Osborne warned of a dangerous cocktail of threats to the economy, and a Royal Bank of Scotland strategist told investors to sell everything. To cap it all, the R-word, recession, has started to appear more and more in news stories around the world.

At such times of turmoil it is important to keep the distinction between what happens on markets and what happens to the real economy. They interact, naturally. Sudden declines in asset prices do sometimes signal a similar fall in economic activity, and because of their impact on confidence and wealth, they may make that fall worse than it would otherwise have been. We saw that in the UK when house prices fell in 2009. When people felt less wealthy, indeed were less wealthy, they cut back. But falls in share prices don’t necessarily signal recession. At the beginning of 2000, after the dot-com bubble burst, falling prices signalled only a slowdown, while after Black Monday, in October 1987, the economy of most of the developed world continued to grow for another two years.

What matters to most of us is what happens in the real economy and, in particular, whether the uneven economic recovery that is running through most of the developed world will continue. Will job growth go on? Will real wages, which have been depressed just about everywhere, continue to rise? Will the debt burden crush growth? It would be grand to be able to answer these questions definitively but we know that we can’t. The experience of the past decade has been humiliating for those who have tried. But we can make observations about the world economy that give us a vague feeling as to how things might pan out.

The first thing to say is that there is a global economic cycle, and we have to accept that. But while downturns do seem to come every 10 years or so, they vary greatly in magnitude and character. The last one was a real humdinger, but fortunately downturns of that magnitude come only once in a generation, maybe less than that.

The second thing is that the experience of recovery has varied greatly. The US has had decent growth, though many carp (I think unfairly) at the administration’s economic management. We have made an OK recovery and an outstanding one as far as job creation is concerned, though people carp about that, too. Germany is fine, the rest of Europe less so. In the emerging world, while two of the Brics, Russia and Brazil, have, for different reasons, hit bad times, the other two, China and India, have continued to grow – though there are many questions about China’s real position.

So, a mixed bag. But if you look at these economies in terms of potential to grow there is capacity in all of them. In the US, though unemployment is down to 5 per cent, there is a lot of evidence of discouraged workers – people of working age who have decided not to look for jobs. Here, we have done wonderfully in creating jobs but dreadfully in increasing the productivity of those workers. In most of Europe, there is lots of slack in both the labour force (it is awful how well-educated young people in southern Europe have to go to Germany or the UK to get a job) and in industrial capacity.

Elsewhere, if the problems of Brazil and Russia were tackled, they could also return to growth, and India is racing ahead. As for China, well, it is making a very difficult transition from an export- and investment-led recovery to growth based more on domestic consumption, but I have not seen any forecast – not one – that there will be a recession there. In any case, slower growth in China means less pressure on resources, including energy, which cuts the price and increases the availability for the rest of us.

Pull all this together and it is hard to see a serious recession around the corner. The building blocks are not there. We are, I suggest, seeing something different: the limits of the ultra-easy monetary policies of the central banks. Just as fiscal policy works when used in moderation, so does monetary policy. A small increase in the fiscal deficit boosts demand but a huge one is counterproductive. In the short term, spraying the world with cheap money did secure the recovery, but it did so by creating asset inflation: boosting share and property prices. That is coming to an end. This is the financial reckoning and it will be difficult for the world economy. If this is right, expect an economic slowdown, but not a global recession – at least not yet.