Doom and Gloom Not Over Yet

EDITORIAL WEDNESDAY 16.07.08. The Australian sharemarket has fallen about 25% in value so far this year. While many people are asking how much longer will this be going in, the real question is “Why is this such a surprise?”

We have been constantly reassured that Australia is better placed than most to weather the economic storm, and that is true. But the fact is that the global economic storm is raging all around us. And despite all of the bravado over a supposed “disconnect” from the fortunes of the United States thanks to the resources boom, it is quite clear that the long standing advice that when Wall Street sneezes the world catches cold remains perfectly true.

Yes, Australia’s prosperity and sound economic fundamentals do help to reduce the damage, but there is no escaping the reality that confronts us. In the United States, the storm clouds were gathering well before the credit crunch began a year ago. Already the prices of houses were falling and had been for some time. When the sub-prime house of cards collapsed it released a tidal wave of consequences.

Here in Australia many people still persist in ignoring the facts. Housing is still insanely overpriced with the gap between average house prices and average incomes at an unsustainable level. The only thing propping up house prices is a dramatic undersupply, which means a sudden collapse in value is less likely, but still some form of correction must inevitably take place.

At the same time many experts are telling us that the sharemarket is oversold and that shares now represent a good value buying opportunity. That’s only half true. The reality is that the international instability will persist for some time yet and the result will be that despite the intrinsic value of Australian shares they will continue to come under pressure from an insecure marketplace until the international landscape levels out.

The bottom line is that the idea of a “disconnect” is a myth. The United States remains the largest economy in the world and if the U. S. falls into a depression, as some have suggested, the impact will be worldwide. While I don’t wish to be a prophet of doom, it is possible that the worst is not yet behind us. On the other hand it is encouraging that the United States is prepared to guarantee the survival of mortgage institutions Freddie Mac and Fannie Mae. It’s that kind of initiative that might just prevent the worst from happening.