da   TELEGRAPH.CO.UK

http://www.telegraph.co.uk/opinion/main.jhtml;jsessionid=0TGO11MM1MOXNQFIQMFCFFOAVCBQYIV0?xml=/opinion/2006/12/07/do0702.xml

America's stock markets typically start crumbling four months before each 
recession, anticipating the crunch in profits. Shares then grind 
relentlessly down for 10 months or so until they have on average knocked 26 
per cent off the S&P 500 index, Wall Street's listing of top companies.

So if you think the US property slump is looking scary after October's 9.7 
per cent drop in new home prices, it may be time to take a little money off 
the table. It has been a lucrative autumn rally, but the four-year bull 
market is long in the tooth by any standards.

As we report today, the rate of insider stock sales by company directors on 
both sides of the Atlantic is the highest since records began 20 years ago, 
with sales outnumbering purchases by 60:1.

It makes scant difference whether your shares are on Wall Street or the 
London Stock Exchange. The FTSE 100 index is a global play these days. The 
lion's share of profits come from overseas, while London's AIM market has 
become a bet on Chinese and Russian companies nesting there by the dozens.

The world economy is what matters, and I don't like the smell of it. Nor, 
apparently, does Hank Paulson, who made $700 million at Goldman Sachs before 
taking over the US Treasury this year. He has reactivated a crisis team with 
a command centre in Washington to cope with the "systemic risk" in a market 
melt-down. His worry? 8,000 unregulated hedge funds with $1.3 trillion at 
hand, and derivative contracts now worth $370 trillion. "We need to be very 
careful here," he said.

A well-sourced article in Washington's Weekly Standard says Mr Paulson fears 
a "serious crisis that would be a body-blow to the US economy".

Yes, China is booming - for now - but it accounts for just 4 per cent of 
world consumption. The great US shopping extravaganza is six times bigger, 
and remains the anchor of the international system. It is slowing fast, 
unsurprising after 17 interest rate rises from 1 per cent in June 2004 to 
the current 5.25 per cent. "Big ticket" orders for cars, aircraft, computers 
and such plummeted 8.2 per cent in October.

Average house prices have fallen from $244,000 in April to $221,000 last 
month, with more violent corrections in Florida, Arizona, and New England. 
Builders have warned of a "death spiral" as they slash prices to off-load a 
glut of unsold homes.

The "happy handover" orthodoxy of the International Monetary Fund is that 
America will escape with a shallow slowdown. Asia and Europe will pick up 
the growth baton. The world will march on without missing a step.

Nice if you can get it. The more ominous possibility is that America fails 
to recover quickly, and takes the world with it. Japan already shows signs 
of stalling. Retail sales have fallen for two months. Far from bursting back 
to life as expected, it is still teetering on the edge of deflation.

France ground to a halt in the last quarter as the surging euro ate into the 
country's industrial core. Airbus was humming when the euro was worth 90 US 
cents. Now it must compete at $1.33, with wage costs in euros set against 
delivery contracts in dollars. Currency hedges protect for a while, then 
reality hits.

German industry says $1.40 is the pain limit. It is hard to see what can 
stop the dollar sliding that far as funds bet on US rate cuts next year. The 
yield premium that kept the currency aloft earlier this year is about to 
narrow, perhaps sharply. The central banks of Asia and Russia are sated on 
dollar reserves. They may not slash their US holdings, but they are unlikely 
to add either. So who will fund America's deficits?

"The US needs a trillion dollars a year just to stand still," says David 
Bloom, currency guru at HSBC. Modern financial crises have always begun on 
the peripheries of global economy, setting off a chain reaction. Mr Bloom 
says the seizure this time will be at the heart of the system as the dollar 
buckles, pressing down on the "aorta of capitalism".

So we have a world where the ageing economies of Europe and Japan are too 
fragile to withstand a dollar slide, yet America needs a weak dollar to 
cushion its own downturn. Meanwhile, China is holding its currency far below 
equilibrium. Nobody is doing much to break this impasse. The 1930s come to 
mind.

The consensus is that America will rebound quickly, averting a sticky end. 
But it takes two years for rate rises to feed through an economy, so 
Americans have not yet faced the worst. Nobody knows how US households with 
record debt will cope with the squeeze. Borrowings rose 8.1 per cent in 
2000, 8.6 per cent in 2001, 9.7 per cent in 2002, 11.4 per cent in 2003, 
11.1 per cent in 2004, 11.7 per cent in 2005, with no let-up in 2006. Debt 
payments have reached an all-time high of 13.9 per cent of personal income.

Americans extracted 6 per cent of GDP from their homes last year in equity 
withdrawals (ie, more debt), mostly to subsidise their lifestyles. This game 
is up. Professor Nouriel Roubini from New York University says recession is 
inevitable. "People have been using their homes as their ATM machine, but 
many are now facing negative equity so there will be a lot of foreclosures. 
As the housing recession spreads to manufacturing, this is going to lead to 
a much harder landing than people think."

The bonds markets are alert, even if equities are not. Interest rates on 
10-year Treasury bonds (4.46 per cent) have dropped below short-term rates 
(5.25 per cent) for five months. This is the "inverted yield curve" of 
satanic fame, flag of recession. Ignore that at your peril.

Whatever happens, the Federal Reserve will come to the rescue. But how soon? 
The Fed minutes from December 2000 show some governors fretting about 
inflation long after the danger had shifted to slump. That wily old bird 
Alan Greenspan silenced them, knowing in his bones that the economy was 
going over a cliff.

His untested sucessor, Ben Bernanke - burdened with inflationist baggage - 
does not yet have the credibility to pull off that stunt. Whatever he really 
thinks, he will have to play by the book. So batten down the hatches for a 
long storm.