Investors are walking on eggshells. Until this week, world stock markets had enjoyed an uninterrupted six-week rally, rising 24 per cent. The question is if Monday's overdue correction marks a larger retrenchment. After all, bear market rallies averaged 30 per cent or more in 1990s Japan and in the US in the 1930s. And Tuesday's reported fall in March UK retail prices, the first since 1960, is a reminder that deflation is still lurking.

Two months ago, when the rally began, there was no evidence that the world economy was bottoming. Since then, the G20 has come and gone, details of the US bank bail-out package have been released, interbank lending rates have fallen, and some banks have even reported reasonable results. Business confidence surveys have also improved, with Germany's ZEW index hitting its highest level in two years. As for the real economy, at the turn of the year sales were falling faster than manufacturers were slashing production. This led to huge stockpiles of unsold goods. But lately these inventories have fallen, suggesting that production could, in time, rise too.

This is encouraging, but it ignores several factors. Sales of goods are now falling as fast as output once was. Indeed the ratio of inventories to sales remains at, or near, record highs in the US and Japan. That hoped-for pick-up in demand may yet prove illusory. Another problem is that the better-than-expected bank results were largely the result of smaller-than-expected writedowns; the slow grind of rising bad debts has only just begun.