Outlook: Bubble or not?

EDDIE GEORGE, Governor of the Bank of England, reckons investors need strong nerves. In a speech the day before yesterday he warned of further storm clouds looming over financial markets. The reaction was pretty telling - the FTSE-100 index leapt by more than 2 per cent. It was similar to the way technology stocks reacted to the pundits' verdict, on their midweek setback, that the internet bubble had burst. It might do one day, but it certainly hasn't yet.

The question as to whether or not there is a bubble, bound to burst eventually, in US share prices, has become key to predicting what will happen to the world economy. It seems a slender thread, but share prices of over- hyped companies like Amazon.com could prove the bellwether for jobs and growth in the rest of the world.

If Wall Street and Nasdaq take a serious dive, the US economy might follow, and it has never been more true that if America sneezes, the rest of us will catch cold. To the casual glance, a chart of the Dow over ten years makes it plain that there is a bubble. The line climbs gently until it soars exponentially from early 1996. Can there be any justification for it?

The answer at one level is that, whether warranted or not, there is little to burst the bubble until the Federal Reserve raises interest rates. As things stand, there is nothing on the horizon to set Mr Greenspan sharpening his needle. Inflation is as remote as it has ever been - not one of the usual danger signals, from commodity prices to wage pressures, is flashing.

At a psychological level, people divide into gut optimists and pessimists about the right level for equities. Americans tend to be optimists about the existence of a "new economy", justifying at least a part of the gains on Wall Street. So do people who work closely with the new technologies. They see their businesses expanding so fast they can hardly keep up. As for the pessimists, they keep on banging on about the "unstainability" of the American economic miracle. For how much longer can foreign capital be expected to keep financing the US's spending binge?

This column's position on these matters is perhaps not a particularly helpful one. It is not comfortable to be caught between two stools when the two positions seem to be diverging further and further, but doing the mental splits is the only intellectually honest stance at the moment. As long as cheap money and the ongoing prospect of it remains the dominant feature of developed economies, equity markets should hold firm, albeit with plenty of turbulence along the way.