America's faith may be misplaced

WITH the world threatened by an American-led recession and the US still licking its wounds after September's terrorist attacks, European policymakers are treating Washington with kid gloves. So nobody wanted to contradict William J McDonough when he told a seminar of top bankers in Paris last month that there really is a new economy and that it has lifted the underlying long-term US growth rate from 2.5% to 3.5%.

This new growth path, he said, should be the foundation on which the Federal Reserve Board in Washington bases interest rate decisions. But in Europe, many do not share the views of McDonough - President of the Federal Reserve Bank of New York - and it is feared the new economy will prove to be a mirage.

Far from ushering in a golden age of stability and high growth, many top Europeans fear the defining characteristic of America's performance is that a naive and premature faith in an economic revolution which may never happen has triggered a global bust, the aftershocks from which could rumble on for years.

'What we have seen in the US is a credit-debt binge of unprecedented proportions which is now imploding,' said Ian Harwoodan economist at Dresdner Kleinwort Wasserstein.

The dollar is at a gravity-defying high against several major currencies. A correction, if it comes in a rush, would trigger an economic earthquake. And the rock on which the US has based its economic fantasy - the credibility of Federal Reserve chairman Alan Greenspan - has been shattered.

Supporting evidence for this latter view is that, until 11 September forced a rethink, President George W Bush's administration was starting to float, in private, the names of possible-successors to the 75-year-old central banker.

The collapse of Enron, the biggest bankruptcy in history and the quintessential new economy corporation, is a metaphor for America's recent economic performance and a terrifying example of how quickly and silently disaster can strike. If anybody had suggested five years ago that what appeared to be no more than a medium-sized energy company - whose main assets were the likes of gas pipelines and electricity transmission cables - could be so transformed that there would be fears its failure could pose a systemic financial risk to the global economy, they would have been ridiculed.

But because of the exponential growth of computing power, the spreading international deregulation of markets for energy as well as finance and the globalisation of American norms of market-based corporate capitalism, Enron became a business whose looming bankruptcy had financial market regulators quaking in their boots.

This was not on account of the $30bn (£21bn) of loans which banks have made to it but because this is a company with a black hole, where a material part of its published accounts should be. And swirling around in the penumbra of off-balance sheet businesses are untold volumes of traded credit derivatives (surely a banking business, many outsiders thought) as well as exotic contracts for trading internationally.

If Enron were the only financial industrial conglomerate operating globally, that would be one thing. But the new economy has seen the emergence and rapid growth of not only new kinds of banking-insurance conglomerates such as Citigroup of America and Germany's Allianz, but also of other financial-industrial conglomerates.

The largest, General Electric of the US, has been making about two-fifths of its profits from its global financial businesses, which include the world's largest aircraft leasing operation. After 11 September it had to issue a profits warning, in part because of an expected $400m after-tax insurance loss on the destruction of the World Trade Centre.

The new global conglomerates do not fit neatly into the old industrial/financial dichotomy around which the nationally based supervision and regulation of banking or insurance is organised.

The regulators are limping to catch up. Just like the near-collapse of the Long-Term Capital Management hedge fund, the only way the world's overstretched financial market supervisors could have found out what exotic financial risks Enron was running was by asking those banks doing business with it about their exposures.

And that would not have proved to be a particularly illuminating investigatory route, since none of them would have had a complete overview or a complete understanding of Enron's business.