US equity markets are struggling to recover, carrying along with them markets in the UK, and many others in Europe. Yet recovery seems elusive. As soon as equity markets start to rise, they fall back again, seemingly on their own weight.

Some blame the US dollar. The argument is that since the US is a big creditor and has a massive current account deficit, the US dollar was due to a sharp fall and, knowing this, investors around the world were reluctant to invest in US equities. Investors, week after week, focused "on the flows into the US dollar", many completely ignoring what was happening elsewhere in the US economy and elsewhere in the world.

Many burnt their fingers shorting the US dollar - that is, selling it today with the hope of buying it in the future at a cheaper price - but it is one thing seeing the figures on paper and another for the results to manifest themselves. Don't hold your breath.

Every investor knows that the market rarely dances to a tune as and when expected. It might dance later, or not at all, or with a completely different choreography.

The US is a powerful economy which, for its size, is extremely flexible and with private initiative incentivised at all levels. Its economy is still growing faster than Europe's. Europe wants to build a state-of-the-art economy by 2010 but its social mores are anchoring it to sclerotic practices in spite of the efforts of many pro-business EU leaders.

The UK has been such an economic success mostly because it has, over the years, adopted operating models inspired by the US, thus decoupling itself from much of the rest of the EU. China's problem is for its brain to keep control of its awakening body; its economic power is formidable, and it has barely started.

So where are investors going to put their liquidity? Where is China going to put its trade surplus? What reserves are central banks going to hold? Are the Americans going to put most of their wealth in euros if their economy is growing faster?

Realistically, with things as they stand today, can any of these shun the US dollar? If, like me, your answer is no, then don't go running to short the dollar.

The dollar is one factor which might have kept the market in its Sisyphean dance. Fear of the dollar, in my opinion, was misplaced. There's another: company earnings.

For a time there seemed to have been the attitude that we knew all the bad economic news (and about all the misreporting) and that the bad news coming out of companies was a consequence of this economic scenario and, therefore, already reflected in prices.

You come to this sort of conclusion because you see US, UK, German and French indices going up while companies are reporting lower earnings expectations, analysts are lowering companies' forecast earnings, and banks are reporting increasing levels of bad debts.

But do we know all the bad news? This question made investors look askance at the previous working theory.

I think it all started when the Federal Reserve in the US cut rates by 0.5 per cent to 1.25 per cent rather than by the 0.25 per cent which the market was expecting. The cut was larger than thought necessary and this made investors suspect that the Fed knew something which they did not.

It was also worrying because the Fed (and, eventually, the European Central Bank) seemed to be running out of monetary bullets. Mr Alan Greenspan, the Fed chairman, then basically said "don't worry, there's the rest of the yield curve", meaning that the Fed can also lower the yield on longer term debt. But since 10-year US government bonds are yielding slightly over four per cent while 30-year bonds are yielding slightly under five per cent, there isn't much to cut there either. So the statement failed to come across too well. Right now, it's not a nice thing to be running an economy.

If you buy low-yielding long-term bonds and, instead of a deflation, the world gets into stagflation (stagnant economy plus inflation), then you would have bought yourself a death trap.

I first started learning economics during a stagflation: it was brought about by the hike in the price of oil in the 1970s plus the high liquidity injected into the system by governments eager to stave off a recession. The result was low growth and inflation.

Take today's high liquidity, add a hefty oil premium due to a war on Iraq, and you have all the ingredients in place. It will be made worse if governments start trying to spend their way out of recession.

Inflation is presently tame because, globally, there is excess production capacity in most sectors; China and other Far Eastern countries are producing goods very cheaply; and commodity prices, including the oil price, are at reasonable levels.

Since the Fed's action, we have had mixed news, on both sides of the Atlantic. Today, for example, it was reported that German unemployment is at a four year high and UK consumption fell in November.

There was some good news too. The problem was that many seemed to be hoping that, from now on, it will be only good news, and it was not. There will be recovery, but my view is that it will be slow.

A third factor is terrorism and Iraq. If it were not for this, I would even perhaps be a tentative buyer, especially of defensive shares. A commonly held view is that a short war would be beneficial to the market while a long one would be excessively costly and bad.

On the other hand though, with things as they are now, even a short war is likely to backfire into terrorist and other reprisals in western economies. If this happens, today's weak economies would be ducked into deep recession, even deflation. A long but tepid war might stimulate western economies into growth.

It is indeed unfortunate that we have to live in times when we have to contemplate these scenarios. To cope with the economics, we are forced to talk about war clinically, while in fact, war is about death, destruction, and despair. My generation was brought up in a time of peace and we were made to believe in the United Nations.

Now everything seems to be slipping and out of control. One small good sign is that oil does not seem to be unduly worried about a war, although, considering that the expected demand for oil is rather weak, in view of sluggish economic growth, the price does seem to include a premium for possible hostilities.

All this makes for a rather dejected scenario. One has to be on the alert, and not tie any one particular scenario to heart. Scenarios are there to be broken and recast. Markets turn when many are pessimistic and the first bulls feel like kings.

There is a firm I know which keeps tabs on the sentiment expressed by commentators and journalists in order to advise their clients to do the opposite - this seems to imply that to make money one must act contrarian to economics writers - but then I don't think they publish their track record.

Perhaps because of reasoning along such lines, I have seen articles to the effect that one should start thinking of getting back into the market. Most of them were written about a month ago when the world view I was discussing earlier "we already know all the bad economic news" held sway. Now, without this rationale, investors may have started buying in reaction to September's heavy falls.

If you want a silver lining take a look at the Far East. You may find good value and growth prospects there. With investors being so naturally optimistic, it is hard to finish off on a stark note.