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03 January 2013

The USA saves up its fiscal cliff problems for another day

The first trading day of the new year brought a substantial rally almost across the board.

A combination of slightly more encouraging Chinese economic numbers and the euphoric reaction to the deal on the so-called ‘fiscal cliff’ in the United States convinced investors that the future suddenly looked rosier than it had only a few short winter days ago.

Chinese economic figures are slippery and mysterious: nobody can really get hold of them and no one fully understands how they are arrived at, but when they are good, we are content just to admire them without really bothering to delve too deeply into their origins.

Without a deeper understanding of the political situation across the country, it is hard to put them into any kind of perspective.

The USA is different. The amount of information, opinion and comment that has been spewed out on this topic over recent weeks is of truly heroic proportions.

There cannot be a single stone that has been left unturned by the economists and news services, with the result that we can all clearly see the problem.

I am sure that this is not the first time American democracy has thrown up a conflict between the executive and legislative branches of government – it is an inherent possibility of the system – and I am equally sure it will not be the last.

But what the rest of the world wants to see, when it looks at what is still the most important engine of the global economy, is a genuine compromise that will put the USA on a steady path back towards stable economic growth.

And what has happened? Well, the politicians sneaked up on that pesky can sitting smugly in the middle of the road, looked for a short while as if they were going to pick it up in their net, but then gave it an almighty kick instead.

It flew off down the road and sits there ahead of the politicians, who are soon going to find it again.

The recent agreement seems to be no more than another time-buying effort, in the same vein as the ones we have been seeing since the financial crisis began.

The US is still bumping along very close to its debt ceiling, and there are only so many fudges that can be used to obfuscate that – the spending half of the tax rise/spending cuts issue will have to be addressed before too long.

If I am right and the agreement did nothing more than shift the problem forward, then why did the markets react so strongly?

First of all, it was simply because something was done.

Rather like the various half-baked euro ‘solutions’, the market reacts positively – even euphorically – to any suggestion that government money (more properly called taxpayers’ money, of course) will continue to made available.

The thinking is that as long as the politicians have not actually closed the door, things may get better. As the next step along this road gets nearer – and it is probably no more than a couple of months away – look for the nerves to re-emerge and the markets to come under pressure again.

In many ways the most interesting aspect of this latest rally was the way everything moved up. In other words, it was yet another demonstration of the (short-term) ‘risk on/risk off’ investment decision.

I for one will only start to feel more comfortable with the global economy when I begin to see an element of selectivity coming back – when investors are prepared to begin to think about the genuine relative strength of different assets, rather than simply making the binary decision.

When that happens, we can begin to believe that the financial world is back on track.

And if we could gain an understanding of what is happening in China, then that would surely be another step in the right direction.

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