from The Economist...
economist.com
For the time being, though, the pessimists seem to have the upper hand. The stockmarket correction which many economists have argued was long overdue now seems to be taking place in a way that no one could have predicted. The ratio of share prices to earnings, traditionally a measure of whether shares are overvalued, is, for many companies, still at historically high levels.
The persistent strength of the dollar in recent years has also caused increasing concern. A strong dollar has made life difficult for American exporters and has helped fuel protectionist pressure in America—pressure to which, in the eyes of America’s trading partners, President George Bush has shown himself uncomfortably willing to respond. And America’s soaring current-account deficit has looked increasingly unsustainable without a significant downward adjustment in the dollar’s value.
Even if such corrections are inevitable, there are dangers when adjustments take place in an atmosphere of near-hysteria in the markets. When investors and traders panic, they have a tendency to over-react—shares get dumped indiscriminately, for instance, without investors making judgments about the relative worth of individual shares.
This is especially likely to happen when people realise that some firms are willing to pull the wool over their eyes, even to the extent of perpetrating accounting frauds. Investors are hardly inclined to try to decide on the merits of their investments when Rite Aid, Enron, WorldCom and many other companies have tried to disguise the true state of their finances. The typical shareholder is wondering who else is guilty.
But as a result, many well-run, genuinely profitable companies will get marked down in the rush to dump shares. They will find it difficult to raise money for investment, which, in turn, could undermine recovery. With growth sluggish or non-existent elsewhere, the global recovery still depends very heavily on America. A faltering American economy would spell trouble for many other parts of the world.
It is true that a cheaper dollar could, in theory, bring benefits if it boosts American exports. Higher demand from abroad for American goods would help compensate for any loss of consumer confidence. But currency markets also notoriously overshoot at times of market turbulence. Once market sentiment starts to push a currency down (or up) it can become relentless.
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