Did the bubble burst this week?

[spindrifter]

Larry Elliott
Saturday May 20, 2006
The Guardian

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Stephen Lewis, an economist with Insinger de Beaufort, said the past week had been one of those unusual periods when the price of equities, bonds and raw materials moved in the same direction. When that happens, he added, the markets have normally sensed change in the air - and that change is that the Bank of England, the European Central Bank, the Bank of Japan and the US Federal Reserve are going to make credit more expensive.

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At the centre lies the US - the world's biggest economy and the fastest-growing country in the developed world for a decade or more. America has been living beyond its means at individual and national levels. Americans have been borrowing to consume, creating record levels of personal debt and a record trade deficit.

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China's boom is closely linked to America's role as the world's consumer of last resort, because factories in east Asia can churn out goods knowing they can be sold on the other side of the Pacific. As a result, China's economy is growing at a rate of around 10% a year, while industrial production is increasing even more rapidly.

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The strong demand for US assets boosts the value of the dollar, exactly the opposite of what is needed to lower the trade deficit. A stronger dollar means cheaper imports, so incomes go further. It also means that inflationary pressure is weaker and that interest rates can therefore remain low. Low interest rates have encouraged consumers to borrow, driving up house prices in the US. Higher house prices, in turn, have created a feelgood factor, encouraging more borrowing.

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http://business.guardian.co.uk/story/0,,1779348,00.html