A few quieter years & what that might bring...

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: All asset markets continue to be on a roller-coaster ride, not just our very own equity markets. Badly spooked markets appear ever-ready to leap at the slightest provocation, of which there is ample supply, and not necessarily slight.

But taking a step back, the view, however sombre, is not really that different from what it was six months or a year before. Crude petroleum has been soaring for years, and however much new all-time highs are highlighted by a media in tune with the mood of the moment, i.e. gloomy and concerned, the order of increase has, if anything, dropped a bit. In 2004, prices rose by about 30%, in 2005 by over 40% and till date in 2006, on average, the hike is 20%.

Even if crude oil prices for the rest of the year lock in at the current elevated levels, we are looking at a total increase of 30% in all of 2006. Considering that the world economy and most of its constituent parts have persisted with robust economic growth is, thus, quite an achievement.

But the very robust nature of this economic growth in the past several years, combined with high oil prices, has caused monetary policy in advanced economies to squeeze aggregate demand and asset prices, to prevent the otherwise likely larger uncontrolled shock further down the road. The interplay between oil prices and growth is not quite a cinch, as some are tempted to suggest, but it is certainly there. Higher fuel prices pinch consumers’ pockets and squeeze some of the demand for durable consumer goods— so suggested the chairman of the US Federal Reserve in his recent testimony to the US Congress. After two years of steady rate hikes, the US interest rate is widely expected to have neared its peak. Much more, many fear, might push the system into a damaging spiral of declining asset (especially home) prices, with concurrent negative effects on the larger financial system.

In India, we will see some more tightening, too, before things settle. China has raised lending rates in recent months and has just hiked deposit rates. There will be some tightening of the bolts before 2006 closes.