When the world's powerful people gathered amid the snows of Davos in late January, there was a tangible warm glow being given off by the economic cycle. "The message was: it's going to be good in 2007 and not bad in 2008," says Mark Spelman, head of strategy at the consulting firm Accenture. Six weeks later, the financial markets are in turmoil and what was at first shrugged off as a "correction" is being seriously monitored as a potential crash.
But why? Corporate profits are buoyant. According to economists at the investment bank Dresdner Kleinwort, worldwide earnings-per-share should grow at 8.8 per cent this year and 10.9 per cent the next. The answer lies in a mismatch between the steady upward trend in the real economy and the crazy, near-vertical optimism of the markets. "People had undervalued risk," says Spelman, "assuming that because the economy is benign there's not going to be volatility."
The Shanghai Composite Index had risen 300 per cent since mid-2005, with small investors selling homes and taking out loans to get into the action: the tell-tale signs of a bubble. Not even China's spectacular GDP growth rate of 9 per cent could sustain it. But while emerging markets have crashed before, this time there was a difference. "It's the first time I can remember that a market outside of America had a global impact," says Clem Chambers, CEO of the investment website ADVFN. "Last week, China caught a cold and America got pneumonia."
The fear now is that, as investors run away from risk, they take losses and expose problems previously masked by the sheer complexity of modern financial instruments - and that this in turn begins to impact on the real-world economy. Attention is focused on four threats which, in their over-optimism, policy-makers at Davos had downplayed.
First, the threat of an American recession. It took the former Federal Reserve boss Alan Greenspan to issue the wake-up call: it was his speech warning of a "possible but not probable" US recession in 2007 that triggered Wall Street's reaction to the Chinese market's slide. Greenspan intervened again on 6 March, refining that prediction to a "one in three chance" of recession before Christmas. Then came a slew of bad figures in the US: productivity growth has now dropped off, and factory orders fell faster than at any other time in the past six years. Then the US government revealed that, instead of growing at 3.5 per cent in the final quarter of last year, the economy had in fact grown at only 2.2 per cent.
The second big fear is about the unfolding credit crisis in the US. Seven out of the top 25 mortgage lenders are in default. The big banks are having to set aside billions for bad debt: HSBC alone wrote off $10bn this past week. The practice of parcelling up these mortgages into complex "derivatives", which then become a "pass the parcel" game in the markets, has also unnerved central bankers. Nobody knows in whose lap the nastiest surprise will land.
Third, there is the question of whether high finance is itself overborrowed. Since the last stock market collapse, in April 2000, hedge funds have become far more central to the financial system: one of their main tactics is "leverage" - borrowing huge sums in order to amplify their return on investment. One hedge-fund insider told me this week: "The markets have finally copped on to the amount of risk in the form of leverage that exists in the market. If you strip out leverage from hedge-fund returns, then the performance for the past 18 months would be pretty poor." The fear is that, when high-risk investments come unstuck, this huge leverage will amplify the losses, which will then cascade over to the banks that lent the money.
The fourth worry is the dependence of western economic growth on China. Nobody expects a severe economic slowdown there: the question is, could China and the rest of Asia take the strain if the western economies slow down? "If America goes into full recession, there are not enough springs in Europe and Asia to compensate: that would be serious," says Spelman.
Which brings us back to Davos. At Davos the big brains of global capitalism were worried about structure, not cycle. They were prepared to think deep, dark, après-ski thoughts about the imbalance between China and America; the growth of hedge funds and derivatives; and the fractiousness of geopolitics. But these were problems that could be surveyed at leisure, sure in the knowledge that the direction of the economy was positive. The simultaneous rout of stock markets in Shanghai, London, Frankfurt and New York changed that. Chambers, a legendary perceiver of patterns at times of instability, believes there's a 25 per cent chance the markets will fall by the same amount again - and soon.
Paul Mason is the business correspondent of BBC Newsnight. His book "Live Working or Die Fighting: how the working class went global" will be published by Harvill Secker on 5 April