A chill wind is blowing through the markets

It is becoming a testy, ill-tempered autumn. There has been no sudden collapse of confidence, as many had feared. But the euphoria of the first quarter of the year, when both global growth and world financial markets hit a peak, gradually evaporated through the summer. During the past couple of months the sense of unease has gradually become more apparent. It is at the moment nothing special, nothing untoward. But it is different.

It is becoming a testy, ill-tempered autumn. There has been no sudden collapse of confidence, as many had feared. But the euphoria of the first quarter of the year, when both global growth and world financial markets hit a peak, gradually evaporated through the summer. During the past couple of months the sense of unease has gradually become more apparent. It is at the moment nothing special, nothing untoward. But it is different.

When a chill wind blows through markets you have to identify what is real and what is froth.

The sharpest and most serious shift of mood is in the hi-tech markets - as discussed on this page. This is a global phenomenon; it is universal; and it is serious. While the downgrading was confined to the dot.com start-ups that was simply eliminating the froth. The heady valuations for the dot.coms only existed for a matter of months, so while the downgrading has been dismal for investors who came in at the wrong time, the fall in prices did not risk becoming systemic - it did not threaten the stability of the system as a whole. The down-grading of giant hi-tech corporations like Cisco Systems is much more serious. Not only is the destruction of wealth far greater; unlike the dot.coms, the wealth was real in the first place.

But even this decline is not systemic. Shares prices go up and go down and economies can survive many months of a bear market and still carry on growing. What worries me most in the hi-tech arena is the possibility of a default in the bond market by a giant corporation, maybe in telecommunications. Such a possibility is now being openly discussed, without at the moment any names being attached.

People are free to think the unthinkable. That is an essential feature of a healthy marketplace. But once they start saying the unthinkable it is time to starting checking the lifeboats.

At the moment the overload of debt being carried by the telecommunications corporations is being likened to the debt carried by property companies during the last two property booms. The parallel is by no means exact for two reasons.

First, property companies were saddled with empty offices that could not be let at any price. Telecommunications companies are facing destructive competition in both their domestic and their international businesses. But demand exists: indeed it is shooting upwards. The problem is simply that capacity has risen even faster than demand.

Second, this is an era of low inflation and still-low interest rates. High interest rates were the killer for property companies for they increased debt servicing costs and reduced the value of the collateral. It is hard to see a really vicious surge in rates; if anything they should be heading down by the middle of next year.

So if the unease were confined to the hi-tech sector, we could probably relax. The trouble is that it is much more widespread. Almost all the Group of Seven economies have seen a wobble in confidence in recent weeks.

In the US the politics have not helped. Here in Britain there has been a gradual softening of confidence in the retailing, manufacturing and financial sectors since the summer. In Germany just this week we have had more evidence of a slowdown in manufacturing, which in turn points to slower growth in the eurozone more generally. In Japan it is politics again. Of the G7, only Canada seems secure - and maybe we should wait for the results of the election there before we shout that too loudly.

What now? The only sensible way to gauge whether the ill-temper in the financial markets will trigger something worse is to look at the real economy. Here are some things to watch.

Start with Christmas. Consumption is more than 60 per cent of GDP so what happens to consumption is really the key to the economy. You can look at numbers, but numbers always tell you what has happened rather than what is happening. You get a swifter and possibly more reliable feeling by walking the floors. Here in the UK, answer questions like these. Are the shops full? Can you get a restaurant table? Do your friends want to slip out for an extra drink in the pub? Are the taxis busy? What is happening to house prices? Do the sales start in mid-December rather than the last couple of days before Christmas? And so on.

The UK will, with the US, be a lead indicator for the next economic cycle. The US economy will probably run three months ahead of us, but we will get quite an early sense of whether the real economy is turning down. At the moment most things in the UK feel very resilient. That would suggest that any incipient downturn is several months off - the back half of 2001 rather than the front half. But if the US has a bad Christmas, then I suggest it is time for caution here.

My guess is it won't: that there is still sufficient momentum in the US economy to carry through well into 2001. Some sectors of the US economy, including financial services, are having a disappointing final quarter, but at a retail consumer level the slowdown has been very slight.

That raises a final question: does an economy slow from the top or from the bottom? Past downturns have started from the top: some seismic macro-economic shift like a surge in interest rates or a rise in energy prices derails the economy. But the world economy has become more democratic. The next downturn will, I suspect, start from the bottom, as ordinary consumers lose confidence and pull back their horns. There is not much sign of that yet - but watch Christmas.