India: World economy: Instability at the core.

Ever since the East Asian crisis, discussions on the state of the world economy have focussed on the weakness in the East, including in Japan. However, the fall of the Nasdaq and the erosion in the value of the euro suggest that all is not well in the West as well, despite signs of robust growth in the US. In this edition of Macroscan, C. P. Chandrasekhar and Jayati Ghosh assess the state of play in the metropolitan centres of world capitalism.

In a move of some significance, Mr. George Soros, the much-celebrated financial czar of the 'new economy', has announced his decision to retire into philanthropy. The hedge fund master, who through his Quantum Fund, drove market sentiment, placed and quite routinely won big bets in currency and stock markets, and challenged sovereign nations and their governments, has been badly bruised by two developments: the sharp fall of the Nasdaq index and the weakening of the euro.

It may be recalled that by April 14, the Nasdaq index fell by 34 per cent from its March 10 peak, and even now rules at around 25 per cent of that level. And the euro has depreciated by around 10 per cent this year.

Unfortunately for Mr. Soros and his managers, the Fund failed to pull out of technology stocks in time and erred in their judgment on how the euro would move. In the event, the Quantum Fund lost around 20 per cent of its value (or around $5 billions) in the first four months of this year.

A chastened Mr. Soros has decided to restructure his operations, rename his company Quantum Endowment Fund, invest in less risky assets that promise a stable return, and use the proceeds for his charitable activities.

The markets are proving too volatile even for a player who built his empire over three decades by exploiting that volatility to garner annual returns in excess of 30 per cent.

This development is more than incidental, because in a world dominated and driven by finance, the change in sentiment that the Soros decision heralds, can be quite damaging. Yet, the Bretton Woods institutions and those who manage current day capitalism exude a new confidence.

Underlying that confidence is the performance of the US economy in recent years, besides the deficit-financed recovery in Korea and Thailand.

As compared with an annual average rate of growth of GDP of 2.9 per cent during the decade 1982-91, the US economy has expanded at an average rate of 3.6 per cent during 1992-99 and 4.2 per cent during the last three years (Chart 1).

Moreover, there have been only two years during the 1990s (1993 and 1995) when growth in the US has been lower than it had been on …