General assessment

Quarterly Bulletin 1987 Q4
Published on 01 December 1987

In the ten days to 16 October the US equity market fell by 16%. In the following week, the New York market fell a further 13% while markets in London and Tokyo fell by about 20% and other equity markets moved by similar amounts. These falls seem to have been triggered by disappointing US trade figures, and by comments and actions by the US and German authorities that were interpreted by the markets as casting doubts on the sustainability of the dollar exchange rate within the Louvre accord arrangements. Once the falls had begun they brought into focus a deeper underlying concern about the persistent US trade and fiscal deficits.

The level of equity prices in many markets, and also of real estate prices, especially in Japan, had been a cause of concern for some time. To this extent some correction was not qualitatively inappropriate, and the falls reduced indices in several centres to about their levels late last year. But the pattern, speed and magnitude of the collapse was out of all proportion to the quantity of new information relating to any relevant fundamentals.

Both long and short-term interest rates had risen earlier in the year, reflecting inflationary worries and some concern about the growth of liquidity. The deflationary implications of the loss of wealth for a global economy already growing quite modestly, together with the damage done to the confidence and liquidity of markets, made it appropriate for the world's monetary authorities to adopt a supportive stance, and in some cases short-term interest rates have been allowed to fall by as much as 1,1/2%. This partly reverses the earlier rises, and a flight to the comparative security of government bonds has had a similar effect on long rates (and raised the value of private holdings of government debt). This Assessment considers the international background to these developments and the domestic context of the British authorities' response.

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