John Rapley

Economic data coming out of the U.S. recently suggest that U.S. home prices will fall this year. It will be the first time since the country began keeping national records on home prices. Many economists reckon that the last time a fall of this scale occurred was in the Great Depression.

Because the U.S. is moving into uncharted territory, it is difficult to say what the impact of this development will be. The fall in prices will not likely be drastic. But it will be widespread. And because much of the American spending spree of recent years was believed to have been driven by borrowing against rising home values, some anticipate a recession in the near future.

So far, aside from the odd day when they break into cold sweats, the markets have not yet panicked. The stock market remains in good shape, and interest rates on government bonds have actually fallen. Everyone on Wall Street expects that just as Alan Greenspan used to do when he was chairman of the Federal Reserve Board, Ben Bernanke will ride to their rescue any day now. By cutting short-term interest rates and pumping new money into the market, the Fed is expected to boost the stock market and stanch the bleeding.

However, the Fed has other things on its collective mind. Beneath the surface, there have been even more ominous developments than the recent gyrations in the stock market. While governmentinterest rates are low, those on corporate paper have been rising, sometimes sharply. Why this is so is not entirely clear. Some attribute it to a wholesale loss of trust in the U.S. financial sector. Others suggest markets know something the rest of us don't; perhaps a major firm somewhere is about to go bust. Still others reckon that inflation is returning, and banks are holding out for better returns.

Whatever the cause, the Fed has to decide what it will do. If interest rates are rising because inflation is returning, cutting them will only worsen the longer term prospects of the U.S. economy. And if rates are rising because trust is low, Fed actions will likely make little difference.

Meanwhile, the falling value of the U.S. dollar, and the recent surge in the price of gold, suggest that foreigners are quietly withdrawing their money from the U.S.. Should this continue, the complacent attitude seen in the U.S. at the moment will be unlikely to last. Americans have grown so accustomed to other people subsidising their lifestyle, that the withdrawal of credit would likely lead to permanently higher interest rates.

Either way, the prognosis for the U.S. has suddenly turned dicey. The good news is that the contagion may not spread to the point that the world economy gets dragged down. Europe remains healthy, while China's problem is that it is growing too fast.

Cold comfort

Nevertheless, that will be cold comfort for us here in Jamaica. A U.S. downturn, which will also affect Canada negatively, is likely to weaken some of the wind we were counting on filling our sails. The question then becomes, how bad will things get in the U.S.?

My own hunch remains that in the same way that what was good for Wall Street in the 1990s wasn't always good for Main Street, the reverse scenario may play out. Corporate profits will likely fall as costs rise. The stock market may suffer. But wage growth may continue, enabling the U.S. economy to keep growing.

Or, it may not. Last week's figures suggestthat unemployment may begin rising in the U.S. again. If that happens, the ride will get rough.