The City
Why Stock Markets Slump
By NICHOLAS DAVENPORT
CO far, the only conspicuous success which Mr. Callaghan can claim in his drive to restrain the rise in personal incomes and spending is in the financial sector of the economy. Throg- morton Street has become a distressed area : the gross incomes of stock-jobbers and stockbrokers have fallen by 50 per cent to 70 per cent. This is the result of the destruction of the great capital market which had made London the envied finan- cial centre of Europe. Of course,. a restricted capital market will still exist—an affair of diffi- cult negotiation between issuing bankers and brokers—but it will be a pale shadow of the old. This open market was killed by a stroke of the pen in the Finance Act of 1965, which made portfolio switching—including even the switching of the life-assurance companies in the gilt-edged market—subject to an extreme capital gains tax of 30 per cent. (I have always regarded a capital gains, tax as a dangerous piece of nonsense, having advocated a wealth tax, but why the Opposition did not press the Government to grade the tax, making it lower, inter alio, for portfolio switching, passes my comprehension.) With investment switching become, in effect, a prohibited trade, the livelihood of the Stock Ex- change was bound to be cut in half, and it is not surprising that a real slump has now settled down the Street. But this is not all—nor even the most serious part of it. (Poor backward nations can exist without a capital market and its apparatus of stockbrokers and jobbers.) A slump has over- taken all security prices and Throgmorton Street is flashing out daily to the financial world that the expectation of millions of investor in Great Britain is of a coming economic and financial crisis—either this autumn or by the middle of 1966. The curious thing is that all the major stock markets of the world are making the same signals of distress. How unwise it was of the Governor of the New York Federal Reserve Board, Mr. McChesney Martin, to make a speech saying that conditions today reminded him of those preceding the slump of 1929-31!
Conditions today are not in the least like 1929, except that a stock market decline in London and foreign centres has preceded a break in Wall Street. History rarely repeats itself : historians simply repeat one another. The big difference today is that we have nothing like the inflation of credit which stoked up the fires of the stock- market boom in America in 1929. In New York Mr. Martin has temporarily put a stop to the increase in the volume of credit which has been carrying the American expansion. In Britain we are in the grip of an extremely tight credit squeeze. In Europe there is credit shortage marked by even higher interest rates than those prevailing in our own dear-money economy. In Japan there has been a credit collapse. What the stock-market slumps have been revealing is the financial crisis brought about by the closing of the American payments deficit. Europe and Japan had been financing their business expansion and stock-market booms on American 'deficit' money. Here is the record of the annual deficits on the American balance of payments over the period 1959 to 1964 in billions of dollars: $4.2, $3.9, $3.1, $3.6, $3.3 and $2.0—a total of over $20,000 million in six years. Is it any wonder that as soon as the Americans, stung by the insult of President de Gaulle converting his surplus dollars into gold, as though dollars were risky, decided to end their payments deficit (which they did in six months) there would be financial trouble? A crisis flared up when the American authorities asked their banks and business people to repatriate money which had been on loan in the so-called 'Euro-dollar' market. But the trouble has spread from the bourses to international trade. This dollar 'deficit' money has also been financing the export business and its withdrawal inevitably puts some restraint on international trade. It is not therefore surprising that when Mr. Callaghan returned from his Washington talks with Mr. Henry Fowler, the new Secretary of the American Treasury, he told -the House of Commons that 'there is an expectation that the growth of world trade will slow down over the next year.'
This does not promise well for our balance of payments. The failure of our export trade to rise—seasonally adjusted exports in the second quarter were per cent down on the first quarter —may be the first sign that world trade is going through a reactionary phase. The sharp fall in some commodity prices, particularly in the food group—cocoa, coffee, tea, sugar and vegetable oils—is also a warning that the purchasing power of many developing countries will be badly affected. Is it, then, a coming decline in world trade that the stock markets are so rudely pro- claiming? Mr. Henry Fowler seems to think that it is, for, in calling for a new Bretton Woods conference, he has stressed the need for the creation of more international liquidity. The sour response of the French to this appeal suggests that the decline will be upon us before the mone- tary authorities of the West get down to the job of providing more international money to replace dollar deficit finance.
I am not suggesting that the slump in Throg- morton Street has been discounting a coming slump in world trade. It has been primarily dis- counting the adverse affect on company distribu- tions of the onerous Finance Act. But its pro- longation can be seen as a forerunner of recession. So far, the Board of Trade has been forecasting a further rise of around 10 per cent in the investment spending of the private sector. There is no evidence, it says, of any change in company plans for spending on new plant, build- ings, vehicles and machinery. Nevertheless, the National Association of British Manufacturers, which speaks mainly for the medium-sized com- panies, has just reported that industrial output has passed its peak—with a marked slackening of export as well as home orders. I would regard this up-to-date report as a more reliable guide than the Board of Trade. When company direc- tors see a 'stock-exchange slump they generallY feel hesitant about committing their capital and tend to defer new financial issues.
I cannot end without a word of warning, to Mr. Callaghan. If a decline in world trade holds up the improvement in our balance of payments, he •should not be thinking of the 10 per cent tax 'regulator,' which would precipitate a domes- tic slump. He should be thinking in terms of selective import quotas and greater export incen- tives. We look like having a recession without anY need for him to accelerate the process.
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