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Sunday, 29 June 2008

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By Joe Bel Bruno, AP Business Writer
Record crude prices biggest difference from last market downturn in 2002

NEW YORK (AP) -- Investors who remember the stock market's steep and prolonged decline earlier this decade may be wondering if the recovery from Wall Street's current morass will also take several years to accomplish.

The dot-com bust, terrorist attacks, recession and corporate wrongdoing combined to send stocks plunging in 2002. Today's market has some similar problems, in particular the troubled economy and a devastated industry -- this time, it's the financial sector. But there's one variable that may be impossible to resolve: oil prices that have more than doubled in a year and show no signs of abating.

"The economic gloom is far greater today then it was in 2002 because we have concern about worldwide inflation and what oil is going to do to the economy," said Alfred E. Goldman, chief market strategist at Wachovia Securities. "The problem for investors is when all of this is going to end, and the bottom line is nobody knows. Nostradamus wouldn't have known, neither would Albert Einstein."

Crude oil has risen nearly 44 percent in the past five months, and OPEC's president said this week he believes oil could rise to between $150 and $170 a barrel this summer; it closed at a record high past $142 a barrel on Friday. That's still lower then the $200 peak recently forecast by economists at investment bank Goldman Sachs.

The uncertainty about where energy prices are going makes it harder for economists to make forecasts. Many believe the high price of energy will eventually reverse after oil goes so high that demand shrivels and supplies increase -- but calculating a timeline is difficult.

That leaves investors "just along for the ride," Wachovia's Goldman said.

Wall Street saw a return this past week of the volatility that had pummeled stocks since last summer but disappeared for a while during the spring. Investors were rattled not only by the uncertainty about oil's impact, but discouraging outlooks for the financial, high-tech and automotive industries.

This past week, the Dow Jones industrials plunged 4.2 percent, the Standard & Poor's 500 shed 3 percent and the Nasdaq composite index fell 3.8 percent.

The market is worried about the direct correlation between the cost of energy, especially gasoline, and consumers' spending habits. Higher pump prices mean Americans might think twice about discretionary items like going out to dinner, buying new clothes, or paying for a new big screen television. Or buying a new car.

Consumer spending accounts for more than two-thirds of U.S. economic growth. Though there are no signs that spending has dried up entirely, many market observers fear it could happen -- especially as gasoline hovers near a national average of $4.08 per gallon.

Wall Street's low point in 2002 was attributed to a host of problems such as the accounting fraud at corporate names like Enron, Adelphia Communications and WorldCom. Global tensions after the Sept. 11, 2001, terror attacks also hung over the market. There was still fallout from the near-collapse of the high-tech industry, and the country's collective problems had also sent the economy into recession.

But, with oil at about $30 a barrel, inflation was under control. The market's troubles were not seen as a systemic risk, as they are today.

"I knew we'd get through all the problems in 2002 because it was your plain vanilla, fairly shallow recession," said Stephen Leeb, president of New York-based Leeb Capital Management and author of "The Oil Factor."

"Right now, I think we're in one of the most threatening crisis of our history, and it is going to take a Manhattan Project to figure out what to do and it will take billions of dollars to implement it," he said, referring to the program during World War II to build the atomic bomb. "It can't immediately be cured because we need long-term answers."

The Federal Reserve, which kept interest rates on hold this past week, is well aware of the problem of expensive oil. The Fed statement released after its rate decision said "the rise in energy prices are likely to weigh on economic growth over the next few quarters."

But, Leeb and others believe this isn't something the Fed can solve on its own. The central bank's weapon against inflation is raising interest rates, which runs the risk of slowing down an already fragile economy.

The higher oil goes, the more important of an issue it will become during the election cycle: "Washington needs to actively take charge if we want to turn this situation around," he said. "People are recognizing that the Fed is now in a total box."

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