22 - 28 March 2001
Issue No.526
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Al-Ahram Weekly On-line 22 - 28 March 2001 Issue No.526 |
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Fall from grace
A black week on Wall Street cut the IT sector down to size and wreaked havoc on global economies, writes Faiza Rady
For nearly a decade it was the best of times, but then the magic suddenly dissolved and the boom turned to gloom on Wall Street last week. Dubbed "black week," the past few days have witnessed a record low on the equity markets -- evoking comparisons with the 1929 crash.
"There's no place to run and no place to hide, and that's characteristic of a bear market," railed Wall Street trader John Roque. He had good reasons to lose faith. On Friday, the hi-tech composite index, the NASDAQ, plunged below the 2000 mark for the first time since October -- down 63 per cent from its record high in March of last year. "Indeed, if NASDAQ prices in relation to realisable profits fall to reasonable levels, the NASDAQ index will have to fall below 1000. That's over 85 per cent down from its height last year," predicted economist Michael Roberts.
The free-fall is a natural result of the IT market's stupendous overvaluation. Popular wisdom, backed by physics and Newton's falling apples, teach us that what goes up must eventually come down. Thus the price of IT companies that had soared to over 180 times annual profits during the past five years were doomed to take a steep plunge sooner rather than later. Despite the general state of euphoria over the virtues of the "new economy" and the proclaimed end of the boom-slump cycle, the writing on the wall was clear for all to see. "Since April 1998, most days on the New York Stock Exchange and NASDAQ have witnessed more stocks falling than rising," The Economist warned last April.
The most sensational loser on the NASDAQ roller coaster is multi-billionaire Microsoft tycoon Bill Gates, the richest man in the information technology (IT) industry according to Forbes magazine. Since March of last year, Gates has lost a whopping $38.3 billion in stocks, reducing his personal assets to a mere $54.4 billion. Not to worry, Bill Gates is still the world's wealthiest man in the IT empire, says Forbes.
While Gates and his bigwig IT cohorts may fret over the bad times and their multi-billion dollar losses, lesser investors are more likely to feel the brunt of the market's sour turn. Analysts estimate that approximately 90 per cent of the "new economy" companies listed on the NASDAQ, Japan's JASDAQ, or Germany's Neuer Market will go under in less than five years. And those who have the most to lose are the smaller fish. Take, for example, the millions of North American workers who invested their life savings in an effort to protect themselves against unemployment or to pad their old-age pensions. A $10,000 investment in IT stocks at the height of the bubble last year currently translates into a staggering $6,000 loss for the small-time investor.
Beyond doing in the NASDAQ, the crash has extended to the "traditional" economy. Last week the Dow Industrial Average plunged 7.7 per cent, or 821 points, the worst weekly point loss in its history. And the Broad Standard and Poor 500 index lost 6.7 per cent of its value, falling into "bear market" territory by slipping 25 per cent below its peak of 10 March 2000. The dreaded bear market is defined as a drop of 20 per cent or more.
It goes without saying that the US crash has had a ripple effect on markets worldwide. Optimists now talk of a global recession, while doom-and-gloom pessimists forecast a global depression. Referring to the US market's immediate impact on the world economy, analyst Michael Roberts commented: "As America sneezes, the world catches a cold. If America gets a cold, the world gets influenza and pneumonia."
Indeed, in the wake of Wall Street's black week, the rich OECD countries seemed to catch a cold, while Southern countries showed symptoms of aggravated pneumonia. In Europe, stock markets began stumbling towards the end of the week, barely missing the "bear market" threshold. "[The market] is going to look like a limp lettuce," warned Justin Urquhart-Stewart, an economist with Barclays stockbrokers. "There are lots of cheap stocks to buy, but cheap doesn't mean it's necessarily good value."
In Latin America, the disaster appeared more dramatic than elsewhere. After hitting rock bottom, Mexican stocks were up for grabs. Brazil's IT stocks, meanwhile, plunged even lower than those on the NASDAQ -- auguring a wave of foreclosures and bankruptcies -- while the local currency, the real, closed at its weakest level against the dollar in 24 months. Regional giant Argentina was equally affected. Argentine IT stocks trailed the fall of the NASDAQ and traditional stocks also lost out, following investor jitters and widespread social malaise about the International Monetary Fund's (IMF) massive economic restructuring programme.
But how did the virtuous boom cycle ultimately derail into a vicious slump? In the US, the IT crash appears to be a fairly straightforward textbook case. An overvalued sector reaches the breaking point when its debt spirals out of control and anticipated profits do not match actual performance. Add to this recipe the spectre of a slowdown in growth, and it is suddenly time for everyone to jump ship. As profit warnings started to pour in and growth slipped from 5.9 per cent in the second quarter of 2000 to 2.4 in the third quarter, investors realised that most of the overvalued hi-tech enterprises were bound to fail. Consequently, investors dropped their IT stocks like hot potatoes, resulting in a relentless shake-out and NASDAQ's 63 per cent plunge in one year.
However justified, the IT sector's gradual fall from grace naturally affected the economy as a whole and, in particular, growth as measured in terms of labour productivity. Many analysts maintain that soaring growth figures in the 1995-2000 period were largely contingent on growth in the IT sector, which relied heavily on increased investment in hi-tech technology and other new equipment to increase productivity. As the IT empire began to crumble and investments were drastically cut back, productivity in turn fell to pre-IT levels and growth figures plummeted. As the magic evaporated, the market economy reverted to its old boom and slump cycle, paving the way to global recession and looming depression.
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