COMMISSION COMMUNITY

When the stock market falls for a record 10 consecutive days, as it just has done, you take notice. Falls like these are usually the portent of something bad, even calamitous, ahead. The worry is obvious; Bush's intentions on Iraq could have potentially disastrous economic repercussions.

The US's economic position is far too vulnerable to allow it to go war without cast-iron multilateral support that could underpin it economically as well as diplomatically and militarily. The multi-lateralism Bush scorns is, in truth, an economic necessity. America may be a superpower that spends more on defence than the next nine countries combined and is preparing to increase defence spending this year by an enormous $48 billion, equivalent to Britain's entire defence budget, but it is a strategic position built on economic sand.

On latest estimates, its net liabilities to the rest the world are more than $2.7 trillion, nearly 30 per cent of GDP, a scale of indebtedness associated with basket-case economies in Latin America.

Its industrial base is so uncompetitive that it consistently imports more than it exports; its current-account deficit, the gap between all its current foreign earnings and foreign spending, is now a stunning 5 per cent of GDP, continuing a trend that has lasted for more than 25 years and which is the cause of all that foreign debt. As a national community, it has virtually ceased to save so that government and individuals ali

ke live on credit.
To finance the current-account deficit, a reflection of the lack of saving, the US relies on foreigners supplying it with the foreign currency it can't earn itself. The Old Europe that Donald Rumsfeld mocked last week has been helping to prop up the US economy, buying shares and bonds on Wall Street, taking over American companies and investing in real estate, compensating for the saving that the Americans aren't doing themselves.

BUT IF FOREIGNERS got windy about the prospects for share and property prices and stopped buying, or began to withdraw some of the trillions they have invested in the US economy, then the dollar would collapse.

Already, it has fallen nearly 10 per cent against the euro over the last six weeks, but that could just be the beginning. Economists at the Federal Reserve have estimated that the dollar needs to fall by 30 per cent to bring the flow of imports and exports into balance, but in today's markets such a fall doesn't happen gradually. It happens precipitately.

If America and Britain spurn a second UN Resolution and go to war with the active opposition of key members of the Security Council like France and Russia, be sure the flow of dollars into the US will slow down dramatically, and be sure there will be a stampede of foreigners trying to sell. Shares on Wall Street that Bush is so anxious to prop up are still massively overvalued. Against this background, there could be a devastating sell-off, with all the depressing knock-on consequences for American consumer confidence and business investment.

What the markets were signalling last week was that this is sufficiently within the bounds of possibility that it was worth taking precautionary action, hence the selling. If the war was over in a few weeks, the risks would be containable, and there will be some shares well worth buying at today's prices. But if the war was prolonged or the subsequent peace unstable, then the pressure on the dollar and Wall Street could become very severe indeed, reinforcing the depressive influences on an economy where the underlying imbalances are so extraordinary.

Bush would have to restore financial confidence, but the avenues open to him - cutting spending or forgoing his cherished tax cuts - would make the economy worse before it got better. He might even have to turn to his despised European allies to ask for a multibillion euro support package for the dollar, because they hold the only currency capable of shouldering the burden. American pressure on the Europeans to stimulate their economies to compensate for the weakness of the US would become enormous.

The derided Europeans will want to do something to help, not least in their own self-interest, but the appropriate mechanisms and instruments have been allowed to rust. The Bush administration doesn't believe in economic co-ordination nor in trying to order markets. Suggestions that Europe and the US should target the dollar-euro rate within a pre-announced range, limit foreign exchange speculation through taxing short-term speculative positions highly or even co-ordinate their economic policies are derided.

The US approach has been unilateralist here as everywhere else: it does what it likes as it likes, a policy that is now showing its limits. Bush needs badly to change course, which Tony Blair should be urging on him. The UN process needs to be respected and reinforced, not least to reassure the markets, and better systems of economic governance need to be put in place. The US's military capacity may allow unilateralism; its soft economic underbelly, we are discovering, does not.

Britain will share in any world economic weakness, aided and abetted by our own particular problems. The plight of manufacturing is acute; capacity utilisation is the lowest for 20 years, as our lack of an exchange-rate policy, impossible without euro membership, crucifies our industrial heartlands.

We have also allowed our corporate, individual and even the Government's fortunes to become interdependent with those of the stock market. Pension funds are showing billion-pound deficits as shares slump, so that companies face colossal and confidence-sapping liabilities.

THE GOVERNMENT'S own finances are also returning to earth as the bubble deflates. The European Central Bank has estimated that if share prices and house prices returned to their 1997 levels, the Government's budget deficit would rise by £25bn on top of its already weakening position. Share prices are already below those levels, and while house prices seem underpinned by low interest rates, last week the Financial Services Authority warned that 20 per cent of households are encountering difficulties servicing their mountainous debts.

Britain needs to avoid a financial calamity as badly as Bush.Yet the two belligerents are squaring up to Saddam not only as if they were politically and diplomatically secure, which they are not, but economically secure, which they are also not. The markets last week were warning us of the risks.

Even at this late hour, it is not too late to change course. Mr Blair must convince President Bush to kill his unilateralism and frame his actions multilaterally. Unless he gets that commitment, he should refuse British support. Too much is at stake for vainglorious posturing.

HOME | BACK