Pin boys in Les Miserables Alleys, Lowell, Mass.
All three are 11 years old and work every weeknight till midnight.
Ilargi: The Dow is up a few points so far today. Yay.... I guess it's pretty obvious that this is because of a whole new bundle of new Federal Reserve taxpayer money hand-out programs. What's even more obvious is that it won't last.
First, the Fed has delved head first into the wonderful world of commercial paper, IOU’s written by all sorts of companies. Which is curious, no matter what reasons they come up with. One variety that they offer to buy, asset-backed commercial paper (ABCP), has not seriously traded in a year.
In Canada, an effort to unlock the trade and pin some, make that any, kind of value on the paper is, I think, still unresolved after 15 months. A second variety, the so-called "not backed by much of anything at all commercial paper" (NBBMOAAACP), will also be accepted by Bernanke and his team of fine unselfish servants of the people.
It may indeed not matter much if the stuff is backed by real assets, since the valuation of assets has become a full-blown scam. A company, in cahoots with a rating agency, can pretty much decide all by itself that a few scribbles on a soiled napkin is worth $10 million. There is no such thing as an independent assessment. If there were, Lower Manhattan would be a ghost town, so don't expect any such assessment any time soon.
The problem, of course, with such practices, is that if and when a company that sells dirty napkins to the Fed pockets the loans and closes its doors, a familiar face we all know well by now is on the hook: the taxpayer. Given the state that the economy is in, and the financial state of the same taxpayer, it’s crystal clear that we’ll see lots of closing doors.
A second new Fed initiative is the $18 billlion
The third Ben B. move is potentially the biggest, and can perhaps even outdo everything on the menu so far. Central banks all over world will play the same game: lower the interest rate. Ostensibly this is to free up the credit markets blah blah. Well, they’ve said that about all the former injections, and I think I can see where that’s gotten us.
What rate cuts all the way to zero really do is pay banks to borrow money from the central bank. And since the Treasury, re: you, is responsible for all losses, you pay the bank in order to borrow your own money back from them. It’s getting so silly that I understand if you find it hard to believe. We're starting to see a competition for who can be the source of the next carry trade. A dangerous little bet: if you're not really really smart, someone will come along, bet you just ain't strong enough, and drive your currency down a hole.
Citigroup Won't Make It
Citigroup is not going to make it, at least not an an independent company. The FT has reported that the head of Goldman Sachs called Citigroup CEO Vikram Pandit to discuss a merger. Goldman had converted itself into a commercial bank. Maybe it was worried it would go the way of Morgan Stanley.
But, the Treasury has come up with capital for all the big financial firms, so the urge to do something has probably passed for the world's premier investment bank. It is different for Citigroup. There things have gone from bad to worse. Citigroup is not likely to make it as an independent company. It will not be a buyer. It will be sold.
If the bank's stock price and analysts covering the company are right, Citi's fate could be determined by the end of the year. Over the last month, shares in the bank are down by 40%. Rival JPMorgan is off 2%. Wells Fargo is up 10%. Citi's market cap is down to $66 billion. Bank of America's is nearly $100 billion. In the last quarter Citi lost $2.8 billion, or $.60 per share, compared with a profit of $2.2 billion, or $.44, in the period a year ago. Revenue fell 23% to $16.7 billion
Bank analyst Meredith Whitney, who has been right more often than not on bank stocks, says that troubles in Citi's consumer group will drive up its losses more than expected. She cut her earnings estimates on the bank to a 2008 loss of $2.87 per share and a loss of $2.65 in 2009. Citi may not have the capital to cover those losses even with the government's cash injection.
What Whitney did not factor in just a week ago is that the credit crisis and signals of a recession have become much worse in a matter of days. Mortgage defaults are likely to rise more sharply then they have been as people lose jobs. The consumer's ability to pay his credit cards debt will deteriorate sharply. Citi's investment banking business is dead as a doornail. Most LBO loans are dropping in value as each week passes.
Citi will not report Q4 earnings for almost three months. It may run into awful trouble before that. The Fed and Treasury are going to have to find a merger candidate. Most likely that will be JP Morgan because Bank of America and Wells Fargo are already digesting big acquisitions. Or, the government may turn around and take a majority stake in the money center bank the way it did with AIG where it has already provided $90 billion in loans. Vikram Pandit will have failed. It may take a little while for that to become absolutely clear, but Wall St. can take it to the bank. Or, maybe not.
Goldman chief sought merger talks with Citi
Goldman Sachs CEO Lloyd Blankfein called Vikram Pandit, his Citigroup counterpart, last month to discuss a merger, in a dramatic example of the secret manoeuvring that preceded the government bailout of the financial sector.
The call, made at the tentative suggestion of the regulatory authorities or at least with their blessing, was shortly after Goldman won surprise approval to convert itself into a commercial bank on Sept. 21. The conversation was brief as Pandit rejected the proposal at once. A deal would have been structured as a Citi takeover of Goldman.
Seperately, The Telegraph reports Goldman Sachs could this week appoint its smallest number of new partners since its flotation, as the bank downsizes in the face of the financial crisis.
Bernanke May Nudge Rates Toward Zero as Economy Faces 'Big-Time' Erosion
Less than three weeks after the Federal Reserve's emergency interest-rate reduction was, in the words of its vice chairman, "overwhelmed" by the collapse of financial markets, Ben S. Bernanke is about to try again. The outlook has worsened since the Fed last acted on Oct. 8, and analysts now say the economy may shrink more than 2 percent in the final quarter of 2008, its steepest decline in at least 18 years.
"We're heading south big-time," says Lyle Gramley, a former Fed governor who is now senior economic adviser at Stanford Group Co. in Washington. As a result, Fed Chairman Bernanke and his colleagues may eventually have to drive the benchmark overnight rate close to zero to resuscitate the economy. The next installment comes Oct. 29 when, says Gramley, "the Fed is going to cut rates a half percentage point." That would reduce the central bank's target for the federal funds rate, which commercial banks charge each other for overnight loans, to 1 percent.
The official rate hasn't been that low since 2004, and has never been lower since the Fed began trying to control it in the late 1980s. More cuts may follow if the economy doesn't recover. Bernanke, 54, and his colleagues are carrying out what Vincent Reinhart, former Fed director of monetary affairs, calls a "great monetary experiment" in attacking the financial crisis -- and the credit crunch it spawned -- on three fronts: lower rates, increased liquidity and purchases of assets that banks and investors don't want.
So far, they've had limited success in turning things around. In fact, the economy looks to be worsening and may shrink at an annual rate of 2.2 percent this quarter, based on the median of forecasts from 11 top economists in the last two weeks. That would come after a likely 0.5 percent contraction in the third quarter and would be the biggest decline since the fourth quarter of 1990, when the economy shrank by 3 percent. Fed policy makers are under no illusion about the difficulties they face as the credit squeeze swamps their efforts to aid the economy with looser monetary policy, including the half-point rate cut carried out in coordination with central banks in Europe and Canada Oct. 8.
Referring to that reduction, Vice Chairman Donald Kohn said in a speech in New York a week later that "the effects of the easier stance of policy on the cost and availability of credit were overwhelmed" by a further erosion of financial markets. In an acknowledgement of the troubles the Fed is encountering, Bernanke last week supported another fiscal- stimulus package and suggested that lawmakers focus their effort on encouraging more lending through guarantees and other steps. The previous measure -- $168 billion mostly in tax rebates -- provided only a temporary boost in consumer spending.
"There's been so much damage done," says Robert DiClemente, chief U.S. economist at Citigroup Global Markets in New York. "That's not going to go away quickly." Some economists say they fear the crisis has already dealt such a blow to the finances and psyche of consumers and companies that output will collapse in the final months of the year. That's what happened in the second quarter of 1980, when the economy shrank at an annual rate of 7.8 percent after then- President Jimmy Carter instituted credit controls and urged Americans to cut their credit cards in half.
"The turmoil of the past six weeks has the potential to lead to the type of decline in lending that we had back in 1980," says Joseph Lavorgna, chief U.S. economist at Deutsche Bank Securities in New York. He forecasts the economy will contract at a 4.5 percent annual rate in the fourth quarter, though he sees it recovering next year. Mickey Levy, chief economist at Bank of America Corp. in New York, says the U.S. is in for a "deep" recession, with the economy shrinking 3.9 percent in the final three months of 2008.
Companies from aluminum maker Alcoa Inc. to Internet giant Google Inc. are reining in spending as the profit outlook dims. Chemical producer DuPont Co. and other exporters are seeing foreign sales slide as economic growth slows overseas. And builders such as Lennar Corp. are bracing for another reduction in their already shrunken market. At the heart of Bernanke's inability to revive the economy is the credit crunch. Stung by some $430 billion in losses, U.S. banks have been reluctant to lend money -- even after the Fed's rate cuts and measures to inject liquidity.
To help counter that, Bernanke turned to Treasury Secretary Henry Paulson and Federal Deposit Insurance Corp. Chairwoman Sheila Bair for help. In a package rolled out on Oct. 14, they agreed to invest $250 billion of government money in the financial services industry and to back the banks with guarantees. Together with similar actions overseas, that has succeeded in making banks more comfortable with lending to each other again. The London interbank offered rate, or Libor, that banks charge each other for three-month loans in dollars slid to 3.52 percent Oct. 24 from 4.42 percent a week earlier.
That doesn't necessarily mean banks will increase lending to U.S. consumers and companies -- in spite of entreaties by Paulson that they do so. JPMorgan Chase & Co. Chief Executive Officer Jamie Dimon said the bank will be more prudent in extending credit. "If you're not fearful, you're crazy," the head of the largest U.S. bank by market value told Wall Street analysts in an Oct. 15 teleconference. Investors are also being stingy with their money amid fears the economic slump will push many companies into bankruptcy. The extra yield they're demanding over Treasury securities for so- called junk bonds -- those with ratings below investment grade - - stood at a record 16.69 percentage points on Oct. 24. That's almost double the 8.36 percentage-point spread at the start of September, based on Merrill Lynch & Co.'s U.S. High Yield Master II index.
"The credit crunch is still here," says John Lonski, chief economist at Moody's Capital Markets Group in New York. "It may have eased a bit but not enough to assure a supply of credit to the private sector that is sufficient to finance a return to passable economic growth." St. Louis Fed President James Bullard said the U.S. risks suffering the same fate as Japan in the 1990s when that country's economy stagnated for a decade because of constricted credit. There is "some possibility of a very adverse outcome, perhaps similar to Japan's, in which policy initiatives do not work well, the turmoil is exacerbated and the entire economy is drawn into a protracted downturn," he said in an Oct. 14 speech.
To try to prevent that from happening, Bernanke may eventually have to cut interest rates to as low as zero percent, just as Japan did in 1999. In fact, then-Fed Governor Bernanke said in 2003 he wasn't opposed to such a move if it proved necessary to aid the economy. "They're going to cut rates at this meeting," says Brian Sack, who worked with Bernanke at the Fed back then and is now deputy director with Macroeconomic Advisers in Washington. "It's not clear that's going to be the last step."
Regional banks get over $18 billion
A diverse group of roughly a dozen regional banks announced Monday that they will get more than $18 billion in federal funds under the bailout program aimed at resuscitating the ailing sector. Varied by size, region and specialty, most of the banks made their participation in the program known Monday morning although some disclosed it early as Sunday evening.
Among the first were two major Ohio-based players KeyCorp and Huntington Bancshares, both of which said they had been approved to get money as part of the the Treasury's Capital Purchase Program. They will receive a total of $3.9 billion. Others include Capital One Financial Corp., Valley National Bancorp and three Southern franchises - First Horizon National , Regions Financial and SunTrust. Combined, the five will receive $11.7 billion.
Both the Seattle-lender Washington Federal as well as First Niagara Financial Group, a small community bank headquartered just outside of Buffalo that operates some 114 branches said they would each get roughly $200 million. Baltimore-based Provident Bancshares also was among those getting federal funds, as was City National, a Los Angeles bank, which got nearly $400 million from the government. Collecting $1.9 billion was Northern Trust, a Chicago firm, which caters to affluent individuals and institutions. Others outlined plans to apply for the program. Fifth Third Bancorp , based in Cincinnati, said late Sunday that it applied for $3.4 billion and that it expects "our application will be approved shortly by Treasury."
In an effort to spur banks to lend to one another and loosen credit for consumers and businesses, regulators unveiled plans earlier this month to inject $250 billion into banks.Nine of the country's largest financial institutions - including Citigroup, Bank of America, Goldman Sachs and Wells Fargo - were initially chosen to receive $125 billion. They are expected to take hold of the money sometime this week. The remaining $125 billion was put up for grabs among thousands of other banks and thrifts nationwide.
PNC grabbed some of that money Friday when it announced it would get $7.7 billion from the government by selling preferred stock and related warrants, when it announced plans to buy embattled lender National City. Regulators have stressed that there is plenty of money to go around for those banks that need capital, but it remains unclear just which banks and thrifts would be eligible. In exchange for capital, banks must give up a stake to the U.S. government, but they also have to agree to pay a dividend on those shares and keep pay packages of their top executives in check.
Fed begins business lending program
Government loaning huge amounts to businesses. The aim: Ease short-term financing fears at a volatile time. The Federal Reserve started buying so-called commercial paper on Monday to jumpstart a critical but faltering lending market used by banks and big businesses. To boost the $1.45 trillion pool of money - which was about $2 trillion a year ago - the Fed has begun buying high-quality commercial paper with a maturation period of three months. The program, known as the Commercial Paper Funding Facility, will continue through the end of April 2009.
"This will be a vital facility until corporations can find an alternative," said Bill Larkin, portfolio manager at Cabot Money Management. "Companies can't operate without access to the commercial paper markets." Several dozen companies registered for the Fed's program, including General Electric Co., which is reportedly the largest issuer of commercial paper. A spokesman for Morgan Stanley confirmed that the Wall Street giant registered, and he said he did not know of another major financial firm that was absent from the list.
The number of participating companies - and the amount of paper that the Fed will buy up - could grow in coming weeks and months. The Fed said it will not cap the total amount it lends out, but the central bank will limit purchases of companies' debt to the greatest amount of paper the company had outstanding this year. The amount of paper that the Fed bought will not be known until Thursday, when the central bank will make a weekly announcement about the facility's cost.
Commercial paper is short-term debt that big businesses and financial institutions sell primarily to money market fund managers and other institutional investors. The companies use the loans to fund day-to-day business operations, but the market has dried up as confidence on Wall Street has waned. Since Lehman Brothers filed for bankruptcy on Sept. 15, total commercial paper has plunged by 20% - the greatest drop on record. Commercial paper outstanding is now at its lowest point since April 2005.
"The problem has grown in scope and magnitude over the past month more than anyone could have imagined," said Scott Anderson, senior economist with Wells Fargo. "Liquidity is freezing up in the short-term lending market, which can snowball very quickly into payroll cuts and other nasty developments." Three-month paper has found the fewest buyers. Investors are worried that they'll end up holding debt for a company that won't be able to pay them back - or won't be there at all at the end of the maturation period.
The vast majority of outstanding paper matures in a week or less, so companies have been forced to refinance their debt weekly - or even daily - and many have not been able to meet their credit needs. The lack of longer-term lending is worrisome for companies looking for financing for the last few months of the year. The fourth quarter is the most critical period for lending, as financial institutions are hesitant to lend with the risk of taking a hit to their balance sheets at the end of the fiscal year. Uncertainty over the looming election has also made investors weary of doling out their funds.
The central bank will charge a floating interest rate that will begin at 1.88% for unsecured debt and 3.88% for asset-backed commercial paper. Paper of lower credit quality is often backed with assets to entice borrowing, but rates are higher. The Fed's rates are competitive with current market rates and are lower than the 2.5% to 5% that borrowers were charged when the credit crisis first took hold in mid-September. Some economists believe that the Fed's commercial paper rates will nudge other rates lower, like the 3-month Libor interbank lending rate, which currently sits at a high 3.51% level. That would be a major boost for the strangled credit market, as more than $350 trillion is assets are tied to Libor.
"The goal of the central banks is to lower Libor rates, because borrowing is so expensive for companies now," Anderson said. "There is no one magic solution, but this program will help lead to lower rates." The Fed's actions have been criticized by some analysts who believe the facility doesn't address the sellers of lower quality paper, who have suffered the most since the credit crisis put a stranglehold on lending. Still, other economists say the Fed's efforts to buy up large amounts of commercial paper will restore confidence to the market.
Tokyo's Nikkei Hits 26-Year Low
Tokyo's Nikkei 225 Stock Average slumped 6.4% to a 26-year low on Monday as nervous investors sold shares of banks and exporters on fresh concerns over the fallout from the U.S. financial crisis and an ever-strengthening yen. The Nikkei lost 486.18 points to 7162.90, its lowest level since October 1982, when Ronald Reagan was U.S. president and Japan was on the eve of an export-led boom that culminated in the burst of its stock-and-real-estate bubble in the early 1990s.
"It's a crisis. It's a psychological shock to think we're back to where we were almost thirty years ago" said Hisashi Takeda, a real-estate worker in central Tokyo. Fanned by booming exports and rising property prices, the Nikkei surged from the early 1980s to as high as 38915.87 on December 29, 1989. But the bursting of the bubble sent the index to under 20000 in less than nine months. Japan's economy then entered a period of stagnation, with the Nikkei bottoming out at 7603.76 in April 2003 before rebounding to the 18000 level in 2007. On Monday, the Nikkei fell below that post-bubble low for the first time.
Shares of Mitsubishi UFJ Financial Group Inc. and other Japanese megabanks tumbled on concern they may need to raise billions of dollars to offset losses on their stock portfolios. MUFG, Japan's top lender in terms of market cap, fell 14.6%, to 583 yen ($6.29), while Mizuho Financial Group, Japan's second-biggest bank, fell 14.8% to 230,000. Exporter shares were also hit by a strengthening yen, which erodes their overseas earnings. Canon Inc. fell 10.88% to 2,375 yen after it said net profit fell 21% in the July-September quarter to 83.04 billion yen, and slashed its forecast for the full calendar year, citing the stronger yen and worsening global economic turmoil. Toyota Motor Corp. fell 8.12% to 2,940 yen.
The Nikkei rose briefly in early trading on news reports that the government would announce emergency measures to calm financial market jitters. But Finance Minister Shoichi Nakagawa offered no large-scale measures to shore up the markets or the economy, disappointing investors and sending the market into negative territory. The Nikkei has lost over half its value this year, even though many of Japan's top companies have sound balance sheets, having paid down their debts over the past several years.
"The Japanese market has completely priced in a major recession and a good portion of a depression; we don't think there is going to be a depression so the market is over-reacting," said John Vail, chief global strategist at strategist at Nikko Asset Management Co. Ltd. Shinichi Ichikawa, chief equity strategist at Credit Suisse, said investors were concerned over the effect of a global slowdown and the strong yen on those companies, which increasingly depend on overseas markets as Japan's population dwindles.
Overseas markets accounted for a record 45% of overall sales of Japanese manufacturers in the year through March 2008, according to a recent study by Nikkei. "Japanese companies are so dependent on demand from overseas," Mr. Ichikawa said. "The global financial crisis and Japan's economy are locked in a downward spiral. Investors are scared because Japan is helpless in this crisis."
Hong Kong shares dive 12.7% as confidence vanishes
Hong Kong shares spiralled into their worse one-day fall since the Asian financial crisis of 1997 as funding and global investor confidence in the once-famous Bric trade collapsed. The banking sector was the most heavily pummeled in the panicky day-long sell-off, in which the Hang Seng plunged by 12.7 per cent to hit a four-year low. The index, which seemed like an unbeatable proxy for the Chinese economic steamroller, has lost 60 per cent of its value this year.
Hong Kong had been one of the more transparent, liquid ways for investors to bet on the astonishing growth prospects apparently available from companies in the Bric economies – Brazil, Russia, India and China. The prospects for those economies have dimmed as global recession looms and their markets were investments that particularly attracted hedge funds and other highly leveraged buyers. With that leverage evaporating amid a worldwide flight from risk and the implosion of borrowing mechanisms such as the carry trade, the money supporting the Bric story is now vanishing.
More than $20 billion (£12.9 billion) was wiped off the value of HSBC’s shares in a 15% fall today but hardest hit was the Bank of East Asia, which brokers in Hong Kong said offered specific reasons for investors to dump the shares. Hong Kong’s fifth largest lender issued a profit warning, which said that profits for the year were “expected to fall substantially” because of the plunging value of its portfolio of collateralised debt obligations. The loss related to the disposal will be worth around £250 million.
Hong Kong has already been the scene of short-lived runs on some of its most prominent retail banks: giant queues snaked through shopping streets in the middle of Hong Kong earlier this month as customers scrambled to pull their savings from several local banks.
London shares hit new five-year low
London's leading share index dived to a new five-year low today after heavy falls across Asia saw the sell-off continue apace. The FTSE 100 Index dropped by more than 200 points at one stage - a fall of 5 per cent - taking the Footsie back to levels not seen since March 2003.
At the same time the pound fell sharply on foreign exchanges. The pound at 9am was 1.5341 dollars compared to 1.5844 dollars at the previous close. The euro at 9am was 0.8068 pounds compared to 0.8011 pounds at the previous close. On London's trading floors, sentiment was hit by steep overnight declines in Asia, with Japan's Nikkei index falling 6.4 per cent to hit its lowest close since 1982.
The latest plunge followed a devastating day for UK blue chips on Friday, when almost £49 billion was wiped off the value of their shares amid recession fears. Recession concerns in the UK were heightened last week after official figures revealed a worse-than-expected 0.5 per cent third quarter fall in UK economic growth - the first negative reading in 16 years.
Nouriel Roubini: I fear the worst is yet to come
As stock markets headed off a cliff again last week, closely followed by currencies, and as meltdown threatened entire countries such as Hungary and Iceland, one voice was in demand above all others to steer us through the gloom: that of Dr Doom.
For years Dr Doom toiled in relative obscurity as a New York University economics professor under his alias, Nouriel Roubini. But after making a series of uncannily accurate predictions about the global meltdown, Roubini has become the prophet of his age, jetting around the world dispensing his advice and latest prognostications to politicians and businessmen desperate to know what happens next – and for any answer to the crisis.
While the economic sun was shining, most other economists scoffed at Roubini and his predictions of imminent disaster. They dismissed his warnings that the sub-prime mortgage disaster would trigger a financial meltdown. They could not quite believe his view that the US mortgage giants Fannie Mae and Freddie Mac would collapse, and that the investment banks would be crushed as the world headed for a long recession. Yet all these predictions and more came true. Few are laughing now.
What does Roubini think is going to happen next? Rather worryingly, in London last Thursday he predicted that hundreds of hedge funds will go bust and stock markets may soon have to shut – perhaps for as long as a week – in order to stem the panic selling now sweeping the world. What happened? The next day trading was briefly stopped in New York and Moscow.
Dubbed Dr Doom for his gloomy views, this lugubrious disciple of the “dismal science” is now the world’s most in-demand economist. He reckons he is getting about four hours’ sleep a night. Last week he was in Budapest, London, Madrid and New York. Next week he will address Congress in Washington. Do not expect any good news. Contacted in Madrid on Friday, Roubini said the world economy was “at a breaking point”. He believes the stock markets are now “essentially in free fall” and “we are reaching the point of sheer panic”.
For all his recent predictive success, his critics still urge calm. They charge he is a professional doom-monger who was banging on about recession for years as the economy boomed. Roubini is stung by such charges, dismissing them as “pathetic”. He takes no pleasure in bad news, he says, but he makes his standpoint clear: “Frankly I was right.” A combative, complex man, he is fond of the word “frankly”, which may be appropriate for someone so used to delivering bad news.
Born in Istanbul 49 years ago, he comes from a family of Iranian Jews. They moved to Tehran, then to Tel Aviv and finally to Italy, where he grew up and attended college, graduating summa cum laude in economics from Bocconi University before taking a PhD in international economics at Harvard. Fluent in English, Italian, Hebrew, and Persian, Roubini has one of those “international man of mystery” accents: think Henry Kissinger without the bonhomie. Single, he lives in a loft in Manhattan’s trendy Tribeca, an area popularised by Robert De Niro, and collects contemporary art.
Despite his slightly mad-professor look, he is at pains to make clear he is normal. “I’m not a geek,” said Roubini, who sounds rather concerned that people might think he is. “I mean it frankly. I’m not a geek.” He is, however, ferociously bright. When he left Harvard, he moved quickly, holding various positions at the Treasury department, rising to become an economic adviser to Bill Clinton in the late 1990s. Then his profile seemed to plateau. His doubts about the economic outlook seemed out of tune with the times, especially when a few years ago he began predicting a meltdown in the financial markets through his blog, hosted on RGEmonitor. com, the website of his advisory company.
But it was a meeting of the International Monetary Fund (IMF) in September 2006 that earned him his nickname Dr Doom. Roubini told an audience of fellow economists that a generational crisis was coming. A once-in-a-lifetime housing bust would lay waste to the US economy as oil prices soared, consumers stopped shopping and the country went into a deep recession. The collapse of the mortgage market would trigger a global meltdown, as trillions of dollars of mortgage-backed securities unravelled. The shockwaves would destroy banks and other big financial institutions such as Fannie Mae and Freddie Mac, America’s largest home loan lenders. “I think perhaps we will need a stiff drink after that,” the moderator said. Members of the audience laughed.
Economics is not called the dismal science for nothing. While the public might be impressed by Nostradamus-like predictions, economists want figures and equations. Anirvan Banerji, economist with the New York-based Economic Cycle Research Institute, summed up the feeling of many of those at the IMF meeting when he delivered his response to Roubini’s talk. Banerji questioned Roubini’s assumptions, said they were not based on mathematical models and dismissed his hunches as those of a Cassandra. At first, indeed, it seemed Roubini was wrong. Meltdown did not happen. Even by the end of 2007, the financial and economic outlook was grim but not disastrous.
Then, in February 2008, Roubini posted an entry on his blog headlined: “The rising risk of a systemic financial meltdown: the twelve steps to financial disaster”. It detailed how the housing market collapse would lead to huge losses for the financial system, particularly in the vehicles used to securitise loans. It warned that “ a national bank” might go bust, and that, as trouble deepened, investment banks and hedge funds might collapse. Even Roubini was taken aback at how quickly this scenario unfolded. The following month the US investment bank Bear Stearns went under. Since then, the pace and scale of the disaster has accelerated and, as Roubini predicted, the banking sector has been destroyed, Freddie and Fannie have collapsed, stock markets have gone mad and the economy has entered a frightening recession.
Roubini says he was able to predict the catastrophe so accurately because of his “holistic” approach to the crisis and his ability to work outside traditional economic disciplines. A long-time student of financial crises, he looked at the history and politics of past crises as well as the economic models. “These crises don’t come out of nowhere,” he said. “Usually they arrive because of a systematic increase in a variety of asset and credit bubbles, macro-economic policies and other vulnerabilities. If you combine them, you may not get the timing right but you get an indication that you are closer to a tipping point.”
Others who claimed the economy would escape a recession had been swept up in “a critical euphoria and mania, an irrational exuberance”, he said. And many financial pundits, he believes, were just talking up their own vested interests. “I might be right or wrong, but I have never traded, bought or sold a single security in my life. I am trying to be as objective as I can.” What does his objectivity tell him now? No end is yet in sight to the crisis.
“Every time there has been a severe crisis in the last six months, people have said this is the catastrophic event that signals the bottom. They said it after Bear Stearns, after Fannie and Freddie, after AIG [the giant US insurer that had to be rescued], and after [the $700 billion bailout plan]. Each time they have called the bottom, and the bottom has not been reached.” Across the world, governments have taken more and more aggressive actions to stop the panic. However, Roubini believes investors appear to have lost confidence in governments’ ability to sort out the mess.
The announcement of the US government’s $700 billion bailout, Gordon Brown’s grand bank rescue plan and the coordinated response of governments around the world has done little to calm the situation. “It’s been a slaughter, day after day after day,” said Roubini. “Markets are dysfunctional; they are totally unhinged.” Economic fundamentals no longer apply, he believes. “Even using the nuclear option of guaranteeing everything, providing unlimited liquidity, nationalising the banks, making clear that nobody of importance is going to be allowed to fail, even that has not helped. We are reaching a breaking point, frankly.” He believes governments will have to come up with an even bigger international rescue, and that the US is facing “multi-year economic stagnation”.
Given such cataclysmic talk, some experts fear his new-found influence may be a bad thing in such troubled times. One senior Wall Street figure said: “He is clearly very bright and thoughtful when he is not shooting from the hip.” He said he found some of Roubini’s comments “slapdash and silly”. “Sometimes the rigour of his analysis seems to be missing,” he said. Banerji still has problems with Roubini’s prescient IMF speech. “He has been very accurate in terms of what would happen,” he said. But Roubini was predicting an “imminent” recession by the start of 2007 and he was wrong. “He hurt his credibility by being so pessimistic long before it was appropriate.”
Banerji said on average the US economy had grown for five years before hitting a bad patch. “Roubini started predicting a recession four years ago and saying it was imminent. He kept changing his justification: first the trade deficit, the current account deficit, then the oil price spike, then the housing downturn and so on. But the recession actually did not arrive,” he said. “If you are an investor or a businessman and you took him seriously four years ago, what on earth would happen to you? You would be in a foetal position for years. This is why the timing is critical. It’s not enough to know what will happen in some point in the distant future.”
Roubini says the argument about content and timing is irrelevant. “People who have been totally blinded and wrong accusing me of getting the timing wrong, it’s just a joke,” he said. “It’s a bit pathetic, frankly. I was not making generic statements. I have made very specific predictions and I have been right all along.” Maybe so, but he does not sound too happy about it, frankly.
G-7 Warns on Yen's Gain; Japan Ready to Take Action
The Group of Seven industrialized nations expressed concern about "excessive gains" by the yen after Japan's currency soared to a 13-year high against the dollar. The G-7 made an unscheduled statement after a request from Japan, Finance Minister Shoichi Nakagawa said, adding that his government was ready to act if needed. The G-7 fell short of pledging concerted action to halt the yen's advance. Separately, Prime Minister Taro Aso said he'd draft measures to help counter the financial crisis.
Japan's Nikkei 225 Stock Average has plummeted 33 percent this month as the soaring yen erodes earnings of exporters such as Sony Corp. The yen has gained as the risk of a global recession and an extended slump in the world's stock markets prompted investors to sell assets bought by borrowing in Japan, where interest rates are the lowest among industrial nations.
"The Japanese authorities must have thought it was important to address this as a shared G-7 concern," said Tomoko Fujii, head of economics and strategy at Bank of America Corp. in Tokyo. "Otherwise the markets would think this is a Japan- specific problem that would make any unilateral" selling of the yen by Japan less effective. The yen traded at 94.12 per dollar as of 1:40 p.m. in Tokyo compared with 93.80 shortly before Nakagawa read out the G-7 statement. The yen last week rose to a 13-year high against the dollar, while currencies of Canada, Australia, the United Kingdom and New Zealand sank by more than 5 percent.
"Many market participants are forced to liquidate their positions," said Fujii. "It's unwanted liquidations because of risk reduction and hedge-fund redemptions and dollar shortages." Sony, the world's second-largest consumer electronics maker, last week cut its full-year profit forecast by 38 percent because of the stronger yen. The proposals Japan's government is considering include a resumption of state purchases of shares owned by Japan's banks, said Hakuo Yanagisawa, a ruling Liberal Democratic Party lawmaker charged with dealing with the financial crisis. The decline in the stock market has eroded the value of shares banks hold as part of their capital.
Japanese banks tumbled on the Tokyo Stock Exchange today after media reports said they may seek to raise extra capital to offset unrealized losses on shareholdings. Mitsubishi UFJ Financial Group Inc. and Sumitomo Mitsui Financial Group Inc. sank more than 10 percent. "We reaffirm our shared interest in a strong and stable international financial system," the G-7 statement said. "We are concerned about the recent excessive volatility in the exchange rate of the yen and its possible adverse implications for economic and financial stability. We continue to monitor markets closely, and cooperate as appropriate."
The "unusual" statement indicates policy makers are one step closer to international currency intervention, said Takahide Kiuchi, chief economist at Nomura Securities Co. in Tokyo. "If the yen appreciates below 90 yen, that may trigger a move." Japan hasn't sold its currency since March 2004 when the yen was trading at 103.42 against the dollar. The Bank of Japan, acting on behalf of the Ministry of Finance, sold 14.8 trillion yen ($157 billion) in the first three months of 2004, after record sales of 20.4 trillion yen in 2003.
IMF aid for Ukraine and Hungary
The International Monetary fund has offered a $16.5bn (£10.4bn) emergency loan to Ukraine and agreed a rescue package with Hungary. Ukraine became the second European nation to receive a bail-out after Iceland secured $2.1bn from the IMF last week. Hungary turned to the IMF for help in order to help shore up its falling currency and financial markets and shield the country from the global financial crisis.
The loan - the terms are not yet known - is conditional on Hungary adopting "strong policies" and will be drawn from the IMF, the EU, and some individual European governments, together with regional and other multilateral institutions, IMF Managing Director Dominique Strauss-Kahn said in a statement. "The policies Hungary envisages justify an exceptional level of access to fund resources," he added.
Ukraine’s $16.5bn, 24-month loan will be used to ensure stability in the former Soviet state and rebuild confidence among investors. "The authorities' programme is intended to support Ukraine's return to economic and financial stability, by addressing financial sector liquidity and solvency problems, by smoothing the adjustment to large external shocks and by reducing inflation," said Mr Strauss-Kahn. "At the same time, it will guard against a deep output decline by insulating household and corporations to the extent possible."
Internal political turmoil has delayed economic development in Ukraine and the IMF loan depends on the ex-Soviet state being able to balance its budget and make reforms to its banking sector. Easy credit and a property boom have seen Ukraine's capital Kiev expand rapidly but the global downturn has seen investors and those willing to offer loans withdraw. Ukraine also relies heavily on steel, but prices have collapsed and its currency, the hryvnia, has fallen sharply in the past two weeks. The IMF remains in discussion with Belarus and Pakistan.
This morning the prime minister of Iceland was reported as saying the island needs $4bn more in funding to help stabilise its ailing economy. "It's hard to give an exact figure, but the situation would be good if we would get $4bn more," Geir Haarde was quoted as saying in Finland's largest daily Helsingin Sanomat. The deal still needs to be approved by the IMF board and Mr Haarde said on Friday he expected it would take about 10 days for the review to take place.
Turkish PM vows not to bow to IMF demands
Turkish Prime Minister Tayyip Erdogan said on Sunday his government would not bow to demands by the International Monetary Fund, state-run Anatolian news agency reported. His comments coincided with an IMF visit to Ankara for post-programme monitoring and intense market speculation about whether Turkey would seal a new loan deal with the Fund.
The country's $10 billion stand-by accord with the IMF expired in May and the government is expected to decide soon what sort of deal will follow it. 'In such a crisis environment we cannot darken our future by bowing to the wishes of the IMF,' Erdogan told a regional meeting of his ruling AK Party.
'If you can reach an agreement in this time with flexibility on our rate of growth, our budget arrangement and all this, then okay we will sit down and sign,' he said. Government sources have said talks with the IMF could last around a month and may finish by the second week of November.
The Turkish lira has lost around a third of its value this month on concerns about the global financial crisis and a sharp slowdown in the Turkish economy, prompting calls from business leaders for the government to agree a fresh loan deal.
Hungary needs speedy euro adoption, deep spending cuts
Drastic spending cuts, tax cuts for companies and speedy euro adoption are needed for Hungary to climb out of the global financial crisis and regain investor confidence, the head of the country's biggest bank said.
Sandor Csanyi, chief executive of OTP Bank, said that the forint's sharp fall last week was fundamentally unjustified and the government and the central bank must protect the currency from further drops. "Rapid euro adoption is the only way (to regain investor confidence)," Csanyi told state television MTV on Sunday. "I think Hungarian politicians need to come together and seek an exception from EU rules to adopt the currency as soon as possible."
Hungary's currency and stocks were one of the hardest hit in the 27 nation European Union over the past two weeks on concern about the country's high debt level, heavy reliance on external financing and the proliferation of household foreign currency loans. "The forint must be protected, if necessary, through further rate hikes or intervention," said Csanyi, who is also one of Hungary's richest men. "I think that the forint's realistic value is around 270 (but) for the next few months, I could even accept 280 as that would really help the economy and exporting firms," Csanyi said.
The forint fell to an all time low of 285 versus the euro on Thursday before recovering to close the week around 280, nearly 11 percent weaker since the start of the year. The forint is among the worst performing emerging market currencies this year. To protect the currency, the central bank last week raised its benchmark interest rate to 11.5 percent from 8.5 percent.
Analysts say Hungary will adopt the euro around 2014. Csanyi added that to stabilise the forint and meet euro adoption criteria, the country needs to drastically reduce spending and cut taxes for corporations while reducing the budget deficit to a range of 0 to 1 percent of GDP from current plans for a 3.4 percent deficit this year.
Oil falls below $60 a barrel
Oil prices fell below $60 a barrel in London, as traders responded to the potential impact of a global recession on energy demand. Brent North Sea crude for December delivery dropped to $59.32 a barrel in early trading, the lowest point since February 2007.
New York's main contract, light sweet crude for December delivery, tumbled to $61.55 a barrel, which was last seen in May 2007. Crude oil prices have slumped since striking record high points above $147 in July on supply concerns. On Friday, the Organisation of the Petroleum Exporting Countries (Opec) said it would cut its output by 1.5m barrels a day to 27.3m barrels starting in November to shore up oil prices.
However, the oil market has continued to fall, with Opec's decision to cut supply at a time of global financial turmoil seen as hurting already weak energy demand, dealers said. The market has also been weighed down by the strengthening dollar, which makes crude more expensive for buyers holding weaker currencies and therefore tends to dampen demand. The euro sank under $1.24 in early London trading, hitting the lowest point for more than two years on fears of recession and the withdrawal of funds into the dollar, dealers said.
Russia feels chill winds of the global downturn
If America and the rest of the West is feeling a chill right now, then Russia is positively freezing. On Friday, both Russia’s stock exchanges saw dramatic falls – with MICEX, the leading exchange controlling 99pc of volume in Russian shares, bonds and commodities, falling 14.2pc after being suspended twice and closing early. Moreover, MICEX chose to suspend all trading today , to allow investors time to digest what appears to be the new economic order, before reopening tomorrow.
Russia is not alone. Having ridden the crest of the bullish wave to the middle of 2007 as one of the BRIC nations – Brazil, Russia, India and China – it is paying the price of being an emerging economy in a downturn. Just as Argentina has decided to nationalise pensions to tackle its own financial crisis, and Iceland has been forced to go cap in hand to the International Monetary Fund, so Russia has its own unique problems. The MICEX has now fallen 74pc from its peak in May 2008 – compared to the S&P 500 which is down 40.3pc year-to-date, and the FTSE 100, which is now 41pc lower than its peak last autumn.
One of the main reasons for this fall is because of the way the country’s investment market is structured. In the months and years running up to the top of the bull market, Moscow became a home for what MICEX chief executive Alexei Rybnikov unashamedly calls “hot money”. “The specific Russian problem in this context is because of the general deficit of long-term buy-and-hold investors. When we became caught in this situation, the leveraged hot money was all gone very fast and we had no domestic investors to support the falling market,” he says.
Rybnikov, who has run MICEX since its formation in November 2003, blames the rapid falls on the degree of hedge funds and other leveraged investors who deserted the market almost as quickly as they entered. As Rybnikov points out, one reason foreign investors were able to exert such power on Russian markets was because of the lack of a domestic shareholder base. The number of Russians who trade in any form of securities is approximately 1m-1.5m, up to 1pc of the country’s 140m population. In the US, this figure is 50pc of households.
In addition, the investment industry is somewhat scant, with entire assets in Russian pension funds, insurance companies running into just dozens of billions of dollars – with very few domestic long-term funds. Impressive, until you consider that MICEX trades $17bn worth of equities, bonds, derivatives and currencies every day. “The development of the domestic investor base was something talked about in the past several years,” explains the MICEX chief. “But that growth did not happen [for political reasons] and as a result all of the negative features of the Russian capital markets came into play.”
Those negative features are now affecting not just the country’s capital markets, but the economy as a whole. On Friday, the cost of insuring Russian governments bonds against defaults rocketed. Perhaps even more worrying was credit rating agency Standard & Poor’s issuing a downgrade notice on those bonds, warning that $200bn of state rescue packages designed to ease the crisis could begin to erode the country’s finances.
Unsurprisingly, perhaps, the Russian economy looks to be in somewhat of a precarious situation. The entire Russian oil industry is now worth less than Brazilian oil giant Petrobras, and some banks are now trading at less than half book value.
“The biggest problem in the Russian economy is a general lack of trust. People are too much afraid to lend money,” says Rybnikov. That said, he clearly believes the structure of Russia’s economy is sound, with a boom in many industries, as seen in the growth of its consumer and production markets.
“Now, we’re looking at events through a darkened piece of glass. It’s definitely worse than was thought by many, but I don’t think it’s catastrophic.” Part of the reason for Friday’s stock market fall in Russia was because the government released figures showing that gross domestic product slowed to 0.4pc. According to Peterson Institute economist Anders Aslund, writing in the Moscow Times, the problems in the economy are three-fold.
First, the banking system has frozen, which led the country’s central bank chairman to say recently he expects 50-70 Russian banks to collapse. Second, as a direct result of the frozen lending markets, Moscow’s booming real estate market is slowing dramatically. Third, commodities, around 25pc of Russia’s GDP, are falling in price, hitting the country’s fiscal firepower. Yes, argues Aslund, Russia traditionally had huge reserves, but with $70bn of those reserves having already left the country, the question remains how strong the Russian economy actually is.
That question continues to weigh heavily on MICEX, whose downward volatility is hurting Moscow’s reputation as a place to do business. Rybnikov is hopeful for the future not only of MICEX, but for Russia’s capital markets as a whole, however. “I think the crisis put into focus the problems in Russia; the lack of pension reform, lack of structural reform. It’s very clear that we do need pension funds for long-term money,” he argues, looking on the bright side of a situation which, right now, seems somewhat bleak.
Gulf Bank Customers Rush for Deposits After Currency Losses
Customers rushed to withdraw money from Gulf Bank KSC, Kuwait's second-biggest bank, after clients defaulted on currency contracts and the central bank was forced to guarantee deposits. In the first signs of a bank run in the Persian Gulf, some Gulf Bank customers demanded money in a panic, Fawzy al-Thunayan, general manager for board affairs, said in an interview today from Kuwait. Trading in Gulf Bank shares was suspended for a second day on the Kuwait bourse.
"Some have withdrawn funds," said al-Thunayan, who declined to comment on the size of the losses or disclose how many depositors had withdrawn funds. "We can't blame them." The bank is "concerned, definitely, but not afraid." Kuwait's central bank will guarantee deposits at Gulf Bank, which remains solvent after client defaulted on currency derivatives contracts, the state-run Kuwait News Agency cited Kuwait Finance Minister Mustafa al-Shimali as saying yesterday. A guarantee of bank deposits in Kuwait will make it the second country after the United Arab Emirates who to have done so in a bid to shore up confidence.
Khalid Al-Matrook, a 33-year-old civil engineer, was among customers standing outside Gulf Bank's head office in Kuwait City today. He said he was frightened by yesterday's news of the currency defaults. "I am withdrawing my 12,000 dinars now and I am not going to spend one penny of it," said Al Matrook, sipping coffee outside the bank building. "I am going to deposit it in NBK (the National Bank of Kuwait) or Commercial Bank."
Gulf Bank may have losses of as much as 200 million dinars ($746 million) on the trades, Ibrahim Dabdoub, chief executive officer of National Bank of Kuwait SAK, said yesterday. Gulf Bank had assets of 5.09 billion dinars at the end of March and deposits of 3.2 billion dinars, according to Bloomberg data. It has 44 branches across Kuwait, its Web site says. "Everything happened so quickly yesterday, we believe today will be calmer. Fawzy al-Thunayan said. "We're working on so many fronts to calm people." Kuwait's benchmark share index fell 2.7 percent to 9,839.8 in early trades today, after losing 3.5 percent yesterday. The index is down 22 percent for the year.
About 40 stock traders in Kuwait marched from the Kuwait Exchange to the Seif Palace, where the cabinet sits. They are demanding that Kuwait's Emir Sheikh Sabah al-Ahmad al-Jaber al- Sabah act to halt the decline in share prices in the country, stock trader Mohammed al-Dosari said today in an interview outside the exchange. "I used to have 400,000 dinars to trade with, and now I only have 20,000 dinars," said al-Dosari. "This is a big national disaster. We don't want the government to make the market go up, we just want to stop this panic."
Kuwait's central bank will propose a bill to parliament to guarantee deposits in the country's commercial banks, KUNA reported yesterday. Central Bank Governor Sheikh Salem al-Sabah said yesterday that Gulf Bank lost money on currency derivatives after the euro declined against the dollar, state news agency KUNA reported. Gulf Bank will absorb the losses until it can work out an agreement with clients, Sheikh Salem said. "Everything is operating as normal," said al-Thunayan. "The central bank is giving us support on all fronts," he said, adding that none of the board has resigned.
Financial tempest spreads to Gulf states
The global economic crisis extended its reach into the Gulf states Sunday, as Kuwait suspended trading in shares of a major bank and the Saudi authorities announced a plan to help citizens receive credit. The Central Bank of Kuwait halted trading in Gulf Bank, one of the country's largest lenders, after a customer defaulted on a derivatives contract.
The central bank said it would "strongly support the bank's financial position" and protect depositors, to assure the public that Gulf Bank's business "will not be affected." The central bank also said it was moving toward guaranteeing deposits at local banks. Many other countries have already taken that step, putting lenders in countries with no guarantee at a disadvantage.
In Saudi Arabia, always sensitive to potential unrest, King Abdullah said that 10 billion riyals, or $2.7 billion, would be placed in an account in the Saudi Bank of Credit & Saving to enable the bank to help hundreds of thousands of citizens get loans for family needs including marriages and home repairs. Middle Eastern governments are mindful of how the crisis has left countries from Iceland to Hungary and Ukraine at the mercy of international creditors.
Major petroleum producing countries had appeared insulated from the crisis that is shaking the foundations of the international financial system. Oil prices rose for the first half of 2008, giving producers a thick cushion of cash. But after reaching a record of more than $147 a barrel in July, prices have collapsed along with the prospects for the world economy. On Friday, U.S. crude oil futures closed in New York at $64.15 a barrel, falling $3.69 even after OPEC announced that it would cut production by 1.5 million barrels a day.
With the fall in oil prices, the Gulf economies now appear vulnerable. "This shows the Gulf countries are not immune to the overall problems in financial system," Olivier Jakob, an oil analyst at Petromatrix in Zug, Switzerland, said in an interview Sunday. "If we get below $60 a barrel, some of these countries will suffer." The moves came as stocks in the region slumped. The benchmark indexes in Qatar and Oman fell more than 8 percent Sunday. Kuwait stocks fell 4.4 percent and Saudi Arabia's main index, which fell 8.7 percent Saturday, fell an additional 1.7 percent Sunday.
Stocks in the Gulf region are off about 40 percent so far this year, in line with the decline in the Standard & Poor's 500-stock index on Wall Street and the 45 percent decline in the Dow Jones Euro Stoxx 600 index. On Saturday, finance ministers from the Gulf Cooperation Council and central bankers met in Riyadh, the Saudi capital, to discuss a more coordinated response to the crisis. In their communiqué, officials "underlined their confidence in the stability of the monetary system in their countries," and said their economies should continue to grow.
But they also expressed concern that the downturn in the world economy would hit home. "We should all work to avoid the negative effects and reduce their impact on our economies by coordinating policies and measures," the Saudi finance minister, Ibrahim al-Assaf, told the Saudi Press Agency. In addition to Saudi Arabia, the Gulf Cooperation Council includes Bahrain, Qatar, Kuwait, Oman and United Arab Emirates.
Globally, banks have posted losses and write-downs totaling $681 billion since the start of the credit crisis, according to Bloomberg News. But so far the damage has been limited in the Middle East. Any big ratcheting up of losses in the region could require governments to bail out their own lenders and dash hopes that sovereign wealth funds from the region would be able to help rescue troubled institutions in the West. Gulf Bank's chief executive, Louis Myers, said the loss would have "no major effects on the soundness of the bank's financial position, and will not affect its ability to continue business."
Fawzy al-Thunayan, a spokesman for Gulf Bank, said Sunday that the loss was incurred by a Kuwaiti company on a "complicated currency derivative," essentially a bet on the euro. "The position worsened in the last 10 days as the euro dived against the dollar," he added, but the customer had been unable or unwilling to make good its losses. The bank will not comment on the amount of the loss "until the position is completely closed," he said, and trading in Gulf Bank will remain suspended until the affair is settled. Ibrahim Dabdoub, chief executive of the rival National Bank of Kuwait, told Al Arabiya television the losses were as deep as 200 million dinars, or nearly $750 million.
The crisis could hurt the Gulf states in other ways. KPMG International, the accounting firm, warned last week that financial fraud in the region could run into the billions of dollars a year. Colin Lobo, a KPMG partner said the financial crisis was creating an environment "where the risk of fraud will increase as businesses come under pressure to show results. Likewise, individuals will also be tempted where costs are rising and income levels are flat."
Gulf Arab nations move to save their banks
Kuwait moved Sunday to prop up the country's second-largest commercial bank and scrambled to protect depositors at other domestic banks, dashing hopes the oil-rich Arab Gulf would emerge largely unscathed from the global financial crisis.
The central bank halted trading in Gulf Bank shares because of high derivatives losses, just a day after Gulf finance ministers said the region's banks were insulated against the liquidity crisis that has rippled through the global banking industry. "The halting of Gulf Bank shares spread panic in the bourse today because the government has been saying banks are safe from (global financial crisis) losses," investor Ahmed al-Fadhli said a telephone interview.
The Saudi stock exchange — the region's largest — fell by 8.7 percent Saturday and is down more than 50 percent since January. Saudi's benchmark Tadawul index closed down about 1.6 percent Sunday, while the Dubai Financial Market sank 4.7 percent, and Qatar's exchange closed down almost 9 percent. Kuwait's exchange was down 3.5 percent at closing. The losses tracked most other major world market indices, which saw declines Friday. Neither the government nor Gulf Bank revealed the size of the losses or their timeframe. But Ibrahim Dabdoub, the chief executive of the National Bank of Kuwait, told Al Arabiya television the losses were up to $742 million.
Because most of the region's banking sector is privately held, little is known about the institutions' true risk exposure. The Gulf Bank news also appeared to have pushed the Kuwaiti government to take a step it has so far resisted — guaranteeing deposits. The country currently makes no deposit guarantees. The central bank said it would propose an urgent bill to guarantee deposits at local Kuwaiti banks in an effort to "boost confidence in our banking sector."
The bank woes and nervous market highlighted problems the oil-rich states may still confront as they try to sustain massive spending and high economic growth rates amid falling oil prices and bank uncertainty. Gulf Bank said in a statement it had advised the central bank Thursday some customers had incurred losses stemming from "the significant decline" in the exchange rate of the euro against the U.S. dollar. Louis Myers, the bank's chief executive, said the losses will "have no major effect on the soundness of the Bank's financial position."
Gulf countries had contended they are largely insulated from the global crisis, in part because of the financial cushion built during years of high oil prices. In an emergency meeting Saturday, the six Gulf Cooperation Council ministers praised regulatory regimes they said protected them from the crisis. But their draft agenda, obtained by reporters, said "unjustified fears" still could lead to a "hysteria" of bank runs in the Gulf. And, it voiced the very real fear that foreign investors may pull money from Gulf markets as developed countries' growth slows.
The International Monetary Fund says many of the countries still could see GDP growth of about 6 percent on a regional average. But the property boom that has underpinned a sizable chunk of the growth could take a significant hit. The Abu Dhabi-based newspaper The National reported Sunday real estate agents in the UAE capital and Dubai are starting to see a decline in prices for as-yet-unbuilt properties.
The UAE has been one of the more aggressive Gulf nations in tackling the crisis' impact. It has injected liquidity into the economy and cut rates in tandem with the U.S. Federal Reserve. But in Kuwait, the government has taken a less hands-on approach, angering investors who sued without success to temporarily close the bourse. On Sunday, traders walked off the floor of the bourse for the second time in less than a week. Investor al-Fadhli said about 40 brokers left the exchange, walking to the nearby seaside Seif Palace, calling on the prime minister for more government intervention.
Oil prices are particularly important for Kuwait, which has a less diversified economy than Saudi Arabia or the booming UAE. That makes the Gulf Bank troubles even more of a concern in this tiny state, whose 1 million citizens enjoy a sweeping cradle-to-grave government security net. The various Gulf nations have addressed the global crisis in different ways. Some have injected billions into the financial sector, despite assurances of adequate liquidity. Others have repeatedly cut interest rates or guaranteed deposits.
Saudi Arabia announced a $2.7 billion deposit into the Saudi Credit Bank that was ordered by King Abdullah, Al-Ektisadiyah newspaper reported Sunday. The money is to be used interest-free by lower-income Saudis.
With wreckage piling up, Fed eyes another rate cut
As the economic wreckage piles dangerously higher, the Federal Reserve is prepared to ratchet down interest rates — perhaps to their lowest point in more than four years — with the hope of relieving some of the pain felt by many Americans.
The convergence of a housing collapse and a lockup in lending has created the worst financial crisis in more than a half-century. Alan Greenspan, who ran the Fed for 18 1/2 years, called it a "once-in-a century credit tsunami," and conceded that he made mistakes that may have aggravated the economy's slump. With a recession seen as inevitable, if not already under way, any Fed rate cut would be aimed at cushioning the fallout.
Vanishing jobs and shrinking paychecks have forced consumers to cut back sharply. Millions of ordinary Americans have watched their 401(k)s and other nest eggs shrink and the value of their homes drop, making them feel in even worse financial shape. In turn, businesses have cut back on hiring and other investments as customers hunker down and credit problems make it harder and more costly to get financing. "These are sobering times," said Paul Kasriel, chief economist at Northern Trust Co.
All the problems have been feeding on each other. So far, Fed Chairman Ben Bernanke and his colleagues haven't been able to break the vicious cycle, despite hefty rate reductions and a flurry of unprecedented steps aimed at getting credit flowing more freely again. Bernanke says he'll use all tools to battle the crisis. To that end, Fed policymakers are widely expected to lower the central bank's key interest rate at the conclusion of a two-day meeting Wednesday — their last session before the November elections.
Investors and some economists predict the central bank will drop the rate by half a percentage point to 1 percent. If that happens, it would mark the lowest rate since the summer of 2004. Others, however, think the rate will be cut by a smaller, quarter-point to 1.25 percent. In turn, rates on home equity, certain credit cards and other floating-rate loans tied to commercial banks' prime rate should drop by a corresponding amount. A half point reduction would leave the prime rate at 4 percent; a quarter-point cut would drop the rate to 4.25 percent. Either way, the prime rate would be the lowest in more than four years.
The Fed hopes that lower rates will spur people and businesses to spend again, helping to brace the wobbly economy.
"I think it would be a good faith psychological move," said Richard Yamarone, economist at Argus Research. However, Yamarone and others doubt that another rate reduction will entice people — many buried under piles of debt — to ramp up spending. But it might help a little, they said. Consumer spending — which accounts for the single-biggest chunk of overall economic activity — probably fell in the July-to-September quarter. That would mark the first quarterly drop since late 1991, when the country was coming out of a recession, economists said.
Given that, many predict the national economy contracted in the third quarter. The government releases the report on gross domestic product on Thursday. GDP measures the value of all goods and services produced within the United States and is the broadest barometer of the country's economic health. Many also believe the economy will continue to contract through the rest of this year and into next year. All that would more than meet a classic definition of recession — two straight quarters of shrinking GDP.
Bernanke has repeatedly warned that the country's economic weakness could last for some time — even if the government's unprecedented $700 billion financial bailout package and other steps do succeed in getting financial and credit markets to operate more normally. Many expect the unemployment rate — now at 6.1 percent — to hit 7.5 percent or higher by next year. Employers have cut jobs each month so far this year. A staggering 760,000 jobs have disappeared. Whether Democrat Barack Obama or Republican John McCain, the next president will inherit a deeply troubled economy and a record-high budget deficit that could cramp his domestic agenda.
Kasriel thinks another rate reduction could help squeezed banks. Lowering rates would increase the difference between the rate banks charge each other to borrow overnight and the rates they are paid on investments in super-safe Treasury securities, a popular investment these days given the chaos in credit markets and on Wall Street, he said. "That will improve profits and will enable banks to restore their capital," Kasriel said.
To unclog credit, the Treasury Department recently announced a historic step, saying it would inject up to $250 billion into banks in return for partial ownership. The hope is that banks will use the capital infusions to rebuild their reserves and boost lending to customers. The money also can be used by a bank to buy another bank, strengthening both to better weather the financial storms.
Earlier this month, the Fed and other central banks joined together to slash rates, the first coordinated move of that kind in the Fed's history. That dropped the Fed's key rate down to 1.50 percent and marked an about face in policy. The Fed in June had halted an aggressive rate-cutting campaign that had started in September, aimed at shoring up the economy. The Fed had moved to the sidelines out of fear that its rate cuts would worsen inflation. Since then the inflation threat has lessened. The threat of a global recession has dampened once surging prices for energy, food and other commodities.
Now a few economists are starting to worry about deflation — a widespread and dangerous bout of falling prices — if the U.S. and world economy get stuck in a long and painful recession. The remote - but powerful- concern about deflation was among the reasons why the Greenspan Fed held rates at very low levels for so long in the aftermath of the last recession, in 2001. By the summer of 2003, Greenspan had ratcheted down the Fed's rate to 1 percent, which was the lowest since 1958. The Fed held rates at those historically low levels for one year before beginning to bump them up to fight inflation.
Critics contend that those low rates fed the housing bubble and lax lending standards that eventually would burst and imperil the economy. The meltdown drove up foreclosures and forced financial companies to wrack up huge losses on soured mortgage investments, laying low storied Wall Street firms and causing banks to fail.
How Washington's Wall Street Bailout Will Boost Bonuses
Uncle Sam has a new name on Wall Street — Sugar Daddy. Bonuses for investment bankers and traders are projected to fall by 40% this year. But analysts, compensation consultants and recruiters say the drop would be much more severe, perhaps as much as 70%, had it not been for the government's efforts to prop up the financial firms.
"Year-end pay on Wall Street will be higher than it would have been had it not been for the government and mergers," says Alan Johnson, a leading compensation consultant. "You would expect it to be down much more." Johnson predicts the average managing director at an investment bank, a title typically earned around eight years on the job, will receive a bonus of $625,000. That's down from nearly $1.1 million last year, but it is still 15 times the income of the average American household.
Top bankers could receive as much as $1 million. Even a bond trader just out of business school could see his or her bank account enriched by as much as $170,000 this Christmas. "The firms have had an extremely difficult year," says Joan Zimmerman, a Wall Street career coach. "But they can't afford to lose talent either."
While the government rescue limits the salaries of five top executives of each of the participating financial firms, Congress did nothing to restrict Wall Street firms from using taxpayer funds to boost the compensation of rank and file investment bankers. "Some people might argue that these bankers should not be penalized if they weren't personally involved in the risky mortgage-backed securities," says Sarah Anderson, project director of the Global Economy Project at the Institute for Policy Studies, a progressive think tank in Washington. "My response is that average taxpayer wasn't either, but she is being asked to take a hit."
Earlier this month, the government announced that it plans to quickly inject $125 billion of the $700 billion economic rescue package into nine of the nation's largest financial firms, including Wall Street titans Goldman Sachs and Morgan Stanley as well as Bank of America, which recently acquired securities firm Merrill Lynch. That along with other Treasury Department moves to rescue Wall Street will mean many wallets of investment bankers will be fatter than they would have been.
"It's not the government's money directly, but in the case of Morgan Stanley and Goldman Sachs, they were facing a severe crunch," says analyst Brad Hintz, who covers financial firms at Sanford Bernstein, and is a former chief financial officer of Lehman Brothers. "Had it not been for the government's help in refinancing their debt they may not have had the cash to pay bonuses." When asked, the U.S. Treasury would not comment directly on Wall Street's bonus plans, though spokeswoman Brookly McLaughlin did reiterate the bailout's intent: "There is broad agreement that the Treasury's capital purchase program was intended to strengthen the financial system and increase lending," she said.
One factor mitigating the financial industry's bonus intentions is the fact that there could be far fewer employed Wall Streeters by the time year-end payouts are made. Goldman Sachs reportedly plans to cut 10%, or 3,250 workers, from its payrolls. Barclay's, too, is expected to eliminate 3,000 jobs from the former investment banking division of Lehman Brothers, which it acquired in September. And Merrill Lynch's John Thain recently said he expects thousands of job cuts in the wake of his firm's acquisition. All told, Hintz expects Wall Street employment to fall by 25%, which could mean a loss of 43,250 jobs in New York City alone, and over 200,000 jobs nationwide, by the end of 2009.
Even with those cuts, Wall Street bonuses may still look inflated in light of the industry's dismal performance in 2008. For example, so far this year, Wall Street has underwritten $1.5 trillion in bonds. Sounds like a lot. But it is $500 billion less than what Wall Street did in debt back in the same time period in 2002, which was the last time Wall Street had a significant downturn. And that year Wall Street bonuses were just $8.6 billion, or $5.4 billion less than they are expected to be this year.
On the plus side, investor panic (which translates into hyperactive trading), and executives scrambling to do deals, have boosted Wall Street revenue. In the first half of the year, which is the latest available data from the Securities Industry and Financial Markets Association, the total fees the investment banks and brokerage firms collected were nearly $166 billion. That's more than triple the $55.5 billion the firms had in revenue back in the first half of 2002.
But the big difference is that in 2002 Wall Street was making money — nearly $8 billion in the first half of that year. This year financial firms are deeply in the red. They lost more than $15 billion in the first half of the year alone, and that was before the market's big plunge in the past few months. Says Frank Bruconi, chief economist in the New York City Comptroller's office: "Had the federal government not stepped in with a bailout plan and other moves, the pay and the employment situation on Wall Street would be much worse." That may make Walll Streeters — and some Manhattan restaurateurs — happy. But it will likely leave a sour taste with taxpayers for some time to come.
HSBC and Santander pressured by nervous investors
HSBC and Spain’s Santander, two of Europe’s biggest banks which have escaped the worst of the credit crisis, are coming under pressure as investors fear they will be sucked into in the financial maelstrom. Shares in both banks fell last week after analysts warned they could be hit by worsening economies in Latin America and Asia, and rising bad debts from UK and US customers.
While HSBC and Santander are among the best capitalised banks in the world, they are looking at capital levels and how capital is allocated within their businesses – in common with other banks. Santander’s UK subsidiary, Abbey, is poised to sell its train-leasing arm, Porterbrook, for about £2bn. Its sale to Deutsche Bank could be announced this week. HSBC may also sell its train-leasing business in a deal which could raise a similar amount. HSBC has appointed NM Rothschild along with its own investment bankers to consider a possible sale, though a deal is not imminent.
Banks are keen to sell their train-leasing businesses because they are capital-intensive. Royal Bank of Scotland sold its business, Angel Trains, to Babcock & Brown earlier this year. Analysts at Morgan Stanley forecast on Friday that HSBC may halve its dividend in 2009 as Hong Kong’s economy slows while bad debts in the UK and US rise.
Michael Helsby, co-author of the research, said HSBC is seen as a “winner” from the global turmoil, but added that its relatively strong position is “more than captured” in its share price. “HSBC is a bank and is a materially leveraged play on the events that are unfolding in the US, UK and emerging markets”.
Meanwhile, ratings agency Standard & Poor’s warned Santander would be hit if Latin America deteriorated. “Santander has significant exposure to Brazil, Mexico and Chile. Although a continent-wide crisis is not our central scenario at the moment, we believe exposure to Latin America has turned from a net positive to a net negative,” S&P’s Marco Troiano wrote in a note. Santander has a total tier 1 capital ratio of over 7pc, but may decide to raise it further.
Harbinger Capital, the hedge fund run by Philip Falcone, built up a £165m short position in Santander’s shares earlier this month. Harbinger has made similar bets against Spain’s BBVA bank and Banco Popular.
Morgan Stanley Propped Up Money-Market Funds With $23 Billion
Morgan Stanley clients withdrew almost one- third of their cash from money-market accounts last month, forcing the firm to buy $23 billion of securities held by the funds to keep them afloat. Redemptions were $46 billion in September, mostly from funds that invest in corporate debt, Morgan Stanley said in an Oct. 9 regulatory filing. The New York-based company made sure the money-market funds had enough cash to repay investors by acquiring some of their assets with financing from "various available stabilization facilities."
Morgan Stanley may have relied on one or more programs set up by the Federal Reserve in the past month to prop up the $3.54 trillion money- market fund industry, analysts said. The Fed has taken steps to restore investor confidence shattered by losses last month at the Reserve Primary Fund, the oldest U.S. money-market fund. "The outflows in money-market funds were unprecedented, savage" said Peter Crane, president of Crane Data LLC, a Westborough, Massachusetts, firm that tracks the industry. "Broker-dealers in particular got hard hit because of concerns about their parent companies."
Morgan Stanley bought the fund assets to "ensure that redemption obligations were met amidst illiquid trading markets," Erica Platt, a spokeswoman for the firm, said in an e-mailed statement. Fed spokeswoman Susan Stawick declined to comment on whether Morgan Stanley had used central bank financing to aid its money-market funds. Individuals and institutions use money-market funds to earn a yield until the cash is needed. They are considered the safest investments after bank deposits and U.S. Treasuries, in part because they buy only highly rated fixed-income securities with an average maturity of 90 days or less. That reputation was undermined by the Sept. 15 bankruptcy filing of Lehman Brothers Holdings Inc.
The following day, the $62.5 billion Reserve Primary Fund said it wrote down to zero the value of $785 million of debt issued by the investment bank. That caused its asset value to fall below the $1-a-share purchase price, the first money-market fund in 14 years to break the buck. New York-based Reserve Management Corp. froze the fund. The news triggered a run on prime money-market funds, which buy both corporate and government debt. Shareholders yanked $488 billion during the month from prime funds, according to data compiled by Westborough-based iMoneyNet.
Morgan Stanley shares fell as much as 69 percent during the week of Lehman's bankruptcy filing to a low of $11.70. The company's money funds have remained at $1 a share "during the unprecedented market turmoil," Platt said in the e-mail. BlackRock Inc., the biggest publicly traded U.S. asset manager, said last week that investors pulled $53.8 billion from its prime money-market and securities-lending funds during the last two weeks of September. The funds, which have regained $13.8 billion since Sept. 30, met the redemptions with cash on hand and securities sales, according to spokesman Brian Beades.
Morgan Stanley injected cash into its money-market funds by purchasing their investments in municipal debt, certificates of deposit and commercial paper, which had become difficult to sell on the open market, according to its 10-Q filing with the U.S. Securities and Exchange Commission. The move permitted Morgan Stanley's funds to repay shareholders without having to sell the securities at a loss. Morgan Stanley, which had $134 billion of money-market assets as of Aug. 31, didn't specify in the filing which funds had outflows. According to monthly notices sent to investors, its Prime Portfolio dropped to $10.4 billion from $36 billion during September and its Money Market Portfolio fell to $5.8 billion from $14.7 billion.
Both Morgan Stanley funds had more than 55 percent of assets in commercial paper at the end of August, according to the investor notices. On average, prime money-market funds had about 45 percent of assets in the corporate IOUs at the end of August, according to iMoneyNet. Platt declined to describe the "stabilization facilities" that primarily funded Morgan Stanley's securities purchases from the money- market funds. The most likely source was the Fed, which has set up at least five funding facilities to help ease the credit crunch, including one unveiled Sept. 19 to provide banks and some brokerages with loans to buy asset-backed debt from money-market funds.
In addition, the Fed two days later approved applications by Morgan Stanley and Goldman Sachs Group Inc. to become bank holding companies -- ending the era of stand-alone investment banks -- and increased the availability of loans to the two firms. The Fed announced a Money Market Investor Funding Facility last week that will provide up to $540 billion in loans to buy assets, including commercial paper and certificates of deposit from funds hit with redemptions. "Morgan Stanley faced the same problem as every other firm: the markets were very illiquid," said Brad Hintz, a securities-industry analyst at Sanford C. Bernstein & Co. in New York. "Its only choice for financing was to go to the Fed."
Bank of Korea Cuts Rate by Record to Bolster Markets
The Bank of Korea slashed interest rates by a record at an emergency board meeting in an attempt to bolster markets as the nation faces its biggest crisis since requiring an International Monetary Fund bailout 10 years ago. Governor Lee Seong Tae cut the seven-day repurchase rate 75 basis points to 4.25 percent, the central bank said in a statement in Seoul today. The bank also broadened the type of bonds it will accept as collateral in money-market operations, giving lenders access to more funds.
The Kospi stock index slumped on concern the rate cut won't prevent the economy from slowing and could add more pressure on the weakening won. President Lee Myung Bak, who met Finance Minister Kang Man Soo and the central bank's Lee yesterday, said today the country is far from experiencing a repeat of the 1997 financial crisis when it needed a $57 billion loan from the IMF. "The Korean authorities felt compelled to take dramatic action in the face of global turmoil," said David Cohen, director of Asian economic forecasting at Action Economics in Singapore. "The rate cut might provide a brief boost to the financial market but the general panic environment prevails."
The central bank also cut rates on special loans for small- and medium-sized companies to 2.5 percent from 3.25 percent. South Korea's Kospi stock index fell 1.4 percent to 925.41 at 1:35 p.m. in Seoul, after earlier rising as much as 3 percent. The index plummeted 20 percent last week in its worst week since 1997. The won sank to 1,440 against the dollar from 1,424, extending this year's drop to 36 percent.
"What we urgently need is stabilization of the currency and a drop in risk premiums paid to investors when local companies raise funds overseas," said Song Seong Yeob, a fund manager at KB Asset Management Co. in Seoul. "The interest rate cut doesn't directly cover such issues. Rather, it will trigger a further decline of the won's value against the dollar." The Bank of Korea said the "large cut was called for in order to guard securely against the possibility of a sharp contraction of real economic activity,"
Governor Lee hinted at further rate cuts, saying the bank will "maintain a stance to pay more attention" to the risk of slower economic growth. Inflation is likely to ease on weak domestic demand and falling oil prices, he said. "The Bank of Korea will likely cut rates again at their monthly rate-setting meeting next week," Chun Chong Woo, an economist at SC First Bank Korea Ltd. in Seoul. "The Bank of Korea seems determined to stop the market panic from the U.S. financial crisis spreading."
The bank said today it would also ease rules to make it easier for exporters to borrow dollars. Also, small businesses that borrowed mostly in Japanese yen can extend their foreign- currency loans for another year, it said. The won has fallen 47 percent against the yen this year. The bank last week raised the limit on so-called total loans to 9 trillion won ($6.2 billion) from 6.5 trillion won. Total loans are offered to commercial banks at a rate lower than the benchmark rate, with the funds earmarked for small and medium- sized businesses.
President Lee held the emergency meeting on returning from a Beijing gathering of Asian and European leaders at which they called for an overhaul of World War II-era banking rules. It was the first meeting of Asian and European Union chiefs since calls for coordinated action mounted amid bank failures and plunging stock prices that began in September. South Korea last week pledged $130 billion to support lenders struggling to obtain foreign funds and said it will spend as much as 8 trillion won to rescue builders struggling with unsold homes. The central bank said Oct. 24 it will inject 2 trillion won into the financial system through repurchase- agreement operations.
GM Said to Ask U.S. Treasury for Aid in Chrysler Merger Talks
General Motors Corp., the largest U.S. automaker, has asked the Treasury Department for financial aid to help complete a merger with Cerberus Capital Management LP's Chrysler LLC, two people with knowledge of the matter said.
Treasury Secretary Henry Paulson would prefer any assistance to come from the $25 billion low-interest loan plan for the auto industry to build more fuel-efficient vehicles, not the $700 billion bailout of the banking system, said the people, who asked not to be identified because the talks are private. Federal aid may boost cash for the money-losing automakers while they await merger savings that analysts have said may take months to realize. The U.S. auto market may shrink this year to the smallest since 1993 as the credit crunch and a slowing economy crimp demand.
Tony Fratto, a White House spokesman, declined to comment on any federal involvement in merger talks. A message left for comment for Keith Hennessey, chief of the White House National Economic Council, wasn't immediately returned. Pierce Scranton, chief of staff to Ed Lazear, chairman of the Council of Economic Advisers, said in an e-mail that he wouldn't comment. GM and Chrysler, the third-largest U.S. automaker, aren't commenting on their talks, and neither is Cerberus, the New York-based buyout firm managed by investor Stephen Feinberg.
The automakers have estimated that a combination would need $10 billion in new equity to shut plants, cut jobs, integrate operations and add liquidity, the Wall Street Journal reported, citing people involved in the talks or briefed on them. The $25 billion automaker-loan program was approved by Congress on Sept. 27. The funds, which are supposed to help convert factories to make more-efficient vehicles, might not be available for six to 18 months, and there may be restrictions on how the money could be used.
Auto lenders such as GMAC LLC, GM's finance arm, and Chrysler Financial might be able to tap the $700 billion Troubled Asset Relief Program. Cerberus owns 51 percent of GMAC and all of Chrysler Financial, which lend to auto buyers as well as to auto dealers to help buy inventory.
Asia eyes key stake in new global financial system
Asian leaders will find the first global summit on the current financial turmoil a perfect venue to demand a key stake for the region in any new international financial system, experts say. As Europe and the United States clash over their leadership role in framing a new international financial architecture at the November 15 meeting in Washington, Asians feel they have much of a stake in the stability of the global system as the industrialized countries, the experts said.
"The big question is how you can restructure the international economic regime in a way that makes countries such as India and China feel that they not only have a stake but also have real influence," said Eswar Prasad, former head of the China division at the International Monetary Fund. The Washinton-based IMF has often been criticized as increasingly unrepresentative of the global economy, with emerging economies, especially Asian ones, chronically underweighted in their voting shares.
"The problem with the Bretton Woods institutions in the way they are currently structured is that these major economies feel that those institutions are still the fiefdoms of the US in particular and advanced economies in general," Prasad said. The IMF and the World Bank are institutions established under the Bretton Woods agreement, which has guided international finance since World War II but which mainly European leaders want rewritten after a massive US home mortgage meltdown sparked the world's worst financial crisis since the Geat Depression.
US President George W. Bush has called for a series of summits, beginning with the November 15 talks, to discuss the causes of the problems in the global financial system and begin developing reform for financial regulatory bodies and institutions. Leaders from China, Japan, India, Australia, South Korea and Indonesia are the Asian regional invitees to the summit, that also include the United States, the European Union, Britain, France, Germany, Argentina, Brazil, Canada, Italy, Mexico, Russia, Saudi Arabia, South Africa and Turkey.
"For the architecture of the international financial system, I certainly think they should be raising the whole question of the overepresentation, particulary of Europe and to some extent the United States, and the extreme underrepresentation of emerging markets, many of which are in Asia," said Nicholas Lardy of the Washington-based Peterson Institute for International Economics. He said that without some really fundamental changes, for example, in the distribution of voting rights in the IMF, "it is hard to see how it is going to remain a relevant international organization".
IMF member nations approved reforms earlier this year for developed countries to give up a small fraction of their voting rights -- equivalent to 1.6 percentage points -- to the benefit of emerging and developing countries. It was criticized by experts as inadequate. "They are really moving at a snail's pace," Lardy said despite IMF chief Dominique Strauss-Kahn's pledge to restore what he called relevance and credibility to the heavily criticized multilateral institution.
While there is some agreement on the need for a powerful and effective multilateral institution that would bring everyone to the table and actually have some leverage over the key players, it is not clear whether the Washington summit would seek a new international financial framework, experts said. "A big concern China and India have is that institutions, like the IMF, may not have leverage over the key advanced country players," said Prasad, now with the Washington-based Brookings Institution.
"So, how you correct that imbalance or at least the perception of that imbalance is going to be very critical," he said. The current financial turmoil has inspired widespread speculation of a shifting balance of power away from the United States and other advanced economies of Europe toward the major emerging economies, said Sabina Dewan of the Washington-based Center for American Progress. "Whether this is indeed the case is yet to be seen, but that emerging economies such as China and India are becoming critical players in the global economic game is clear," she said.
China Backs Europe's Push for Oversight
After several days of talks between European and Asian leaders, China apparently has allied itself with Europe in calling for a vigorous system of international regulation. In closed-door talks with European leaders Friday and Saturday, senior Chinese officials said they would back Europe's effort to overhaul international regulatory systems, European diplomats present at the meetings said. China most strongly stated its position Friday in a talk between Chinese President Hu Jintao and José Manuel Barroso, president of the European Commission.
Mr. Hu, according to diplomats at the meeting, said China would "actively cooperate" with the EU, which has been pushing an ambitious new system of global oversight. Formal talks on the new overhauls would begin in mid-November in Washington. "The Chinese said they'd back more vigorous reforms," a senior European diplomat said in an interview. "They rely on the global economy and are afraid it's become very unstable."
Chinese officials had no comment on the closed-door meeting. In public statements, Chinese leaders issued milder endorsements of reforms. At the close of the seventh Asia-Europe Meeting on Saturday, for example, Chinese leaders backed the 45 nations' statement, which expressed "the need to improve the supervision and regulation of all financial actors, particularly their accountability." Foreign diplomats have been keen to see how China would come down on the issue of regulation. On one hand, China values stability and thus would seem naturally to support regulation. On the other, it likely doesn't want international institutions that curb its sovereignty or constrain its financial flows.
In Brussels, EU officials said they weren't surprised China agreed to side with the EU in pushing for new rules for financial markets. "They want a seat at the table in whatever is going to happen," said an EU official who attended an Oct. 15-16 summit that drafted the EU's plan. U.S. officials said that the Beijing meetings underscore the importance of President Bush's global economic summit, scheduled for Nov. 15 in Washington after the presidential election. The White House hopes to use the summit to discuss the crisis's underlying causes, analyze responses and develop principles to reform the global financial architecture.
Bush administration officials acknowledged their concerns that some countries could seek to use the financial crisis to move against free trade and promote more centralized economic models. "Whatever else we do, the summit needs to enhance our commitment to free markets and free trade -- the fundamental policies that have increased standards of living," said a U.S. Treasury Department official.
Credit Crisis Slows Economy in Once-Hot Poland
Poles were jolted last week by the sudden discovery that they were not immune to the financial crisis contagion rippling across the globe. The plunging stock market here and the drastic weakening of the Polish currency proved, as in so many corners of the fast-growing developing world, how wrong they were.
The go-go atmosphere in Poland has abruptly stilled to a cautious wait-and-see. Developers across the country have halted building projects for thousands of apartments as banks have grown stingy with lending. The boomtown energy here has been replaced by nervous eyeing of the once powerful zloty, as it retreats in value against the dollar and the euro.
The daily newspaper Dziennik summed up the mood on Friday with a front-page headline, “Welcome to the Tough Times.” In a country that seemed to be on the fast track to full membership in the Western club, the question on everyone’s lips is, “Why us?” Emerging markets that seemed healthy, even thriving, barely a month ago are beginning to find themselves caught in the worldwide panic. This sharp turn has caught even the local financial guardians and experts by surprise, as they have clung to their indicators of fundamental economic soundness while forgetting that capital stampedes rarely tarry for fine distinctions.
From Europe’s former Communist bloc to South America, fear and disbelief mingled with frustration that a breakdown in the United States mortgage market — one that most investors and institutions in emerging markets had avoided — was beginning to lead once again to their punishment at the indiscriminate hands of the capital markets.
“Everything is going down,” said Lukasz Tync, 28, an information technology consultant in Warsaw, who said he owned shares in 10 companies and several mutual funds and had been hit hard by five consecutive days of falling stocks at the Warsaw Stock Exchange. The country’s leading index was down 12.6 percent for the week and more than 50 percent for the year. “The thing is that there is no fundamental basis for such moves,” Mr. Tync said. “It’s just panic.”
Adding to the pain, the zloty has fallen around 17 percent against the dollar over the past week, and more than 10 percent against the euro. The currency has fallen roughly 30 percent against the dollar in October. Economic experts are cutting growth forecasts.
Poland is still considered relatively healthy compared with Hungary and Ukraine, which have been among the hardest hit. On Sunday, the two reached tentative agreements with the International Monetary Fund for loans and other assistance aimed at preventing their financial systems from collapsing. Ukraine will get a loan of at least $16.5 billion. The value of Hungary’s rescue package has not been specified. Still, alarm about Hungary and Ukraine has infected Poland.
“A week ago, people would have told you that this is an oasis of calm and stability,” said Marek Matraszek, founding partner and managing director at CEC Government Relations in Warsaw, a political consulting firm for foreign investors. “They didn’t expect that the lack of confidence in Central Europe would bleed over from Hungary and Ukraine.”
The bleeding has extended much farther. In South Africa, the price of platinum, a major earner of foreign exchange, has cratered, from more than $2,000 an ounce in June to less than $800 now, contributing to a sharp depreciation in that country’s currency. Brazil’s currency has fallen by more than 40 percent against the dollar since August. The Turkish lira has fallen by more than 30 percent against the dollar in recent weeks and almost 20 percent against the euro.
Fuat Karatas, 41, a dental technician in Istanbul, buys some imported materials priced in euros but cannot pass on the rising price to customers, who pay in lira, he said. “Now with the euro going crazy, I have no idea how things are going to work out for me,” he said. “I just want to be able to keep my lab open, nothing more.” During more prosperous times the risks in emerging market countries were strongly underestimated, said Marek Dabrowski, president of the Center for Social and Economic Research in Warsaw. “Naturally, the global credit crunch and economic slowdown caused overshooting in the opposite direction,” he said.
Emerging-market countries are hardly a homogenous group, but they face similar challenges. The outflows of investor capital driving down their stock markets and pressuring their currencies have occurred just as the demand abroad for their products, whether commodities like oil or manufactured goods like automobiles, has begun to weaken. But the crisis has not hit the streets right away, buttressing the confidence of many in affected countries that the problems are temporary and can be weathered.
Some argue that the declining value of local currencies is even a plus, because it will help these countries sell more goods abroad by making them more affordable. “When the zloty was so strong, my import was profitable. Just now, I hope my exports will be improving,” said Krzysztof Izydorczyk, 52, owner of Comexpol, an importer and exporter of stainless steel products based in Katowice.
In South Africa, Finance Minister Trevor A. Manuel gave a budget speech to Parliament last week, saying he had seen the warning signs of trouble and had taken appropriate action. But South Africa is not just facing unpredictable economic pressures. It is also at a perilous political moment, with a likely split in the governing African National Congress and a strong possibility that the unemployment rate will worsen. The economy had been weakening before the global crisis, according to Pieter Laubscher, chief economist at the Bureau for Economic Research at South Africa’s Stellenbosch University.
The commodities boom had drawn investment into the country and had helped drive economic growth, Mr. Laubscher said, but that boom has now fallen victim to the worldwide slowdown. In Brazil, leaders took pains to save wisely during the commodity boom, reform the country’s banking sector after a financial crisis in the late 1990s and diversify its trade partners. “This country has never been so prepared to face up to adversity as it is now, economically, politically and, I’d say, ideologically,” President Luiz Inácio Lula da Silva said early last week.
But on Wednesday the government empowered state-controlled banks to buy stakes in private financial institutions. Although officials denied any private banks were in danger, the announcement fueled jitters that some could fail, helping send Brazil’s stock market down more than 10 percent that day. Poles had good reason to believe that they had avoided the stigma that causes investors in emerging markets to flee at the first hint of financial panic. Poland had joined the European Union and NATO, it was a close ally of the United States, it was growing robustly and enjoying swiftly rising living standards unimaginable under Communism.
Experts say there was a consensus locally that Poland would not be affected by the crisis, and that membership in the European Union would buffer it from the worst of the shocks. That consensus has begun to break down. When the Central Bank of Hungary surprised markets last week by raising interest rates three percentage points to defend its currency, the vulnerability of Central and Eastern Europe received harsher scrutiny.
Poland illustrates the illogic but also the relentless pressure this crisis has exerted, because in many ways it was in good shape. Compared with Hungary, Poland has higher growth, lower inflation, lower interest rates, less public debt relative to the size of its economy and a smaller share of foreign loans. Poland has stronger domestic demand than Hungary to prop up the economy as consumers among its Western trading partners cut spending. But Poland has not adopted the euro, which might have helped insulate it somewhat. Now the prime minister, Donald Tusk, says Poland hopes to by 2012.
Government officials in Warsaw, including the prime minister, the central banker and the finance minister, have been saying that the Polish economy remains strong and that they expect markets to stabilize. Indeed, the latest economic news out of Poland has been largely positive. Retail sales rose 11.6 percent in September, compared with the previous year, and the unemployment rate, which exceeded 20 percent just five years ago, fell 0.2 percentage points last month, to 8.9 percent.
At Miedzy Nami, a restaurant in downtown Warsaw, the owner, Ewa Moisan, said she had not seen a slowdown. Yet some customers said they were beginning to feel the pinch. The monthly payment for the apartment mortgage of one customer, Jarek Wiewiorski, has gone up by a fifth, to 1,800 zloty, about $600. “It’s not catastrophic, but it’s painful,” Mr. Wiewiorski, 40, said. “One minute it’s America, the next it’s Hungary, and then suddenly, it’s here.”
For some marquee retailers, ‘tis the season to be bankrupt
The conventional wisdom for retailers having financial difficulty has been to stave off bankruptcy until after the holiday season. But tumultuous financial markets, flagging consumer confidence and cautious lenders are undermining the efforts of struggling retailers to stay in business, restructuring experts say. Indeed, many retailers hoping to ride out the storm face tough choices about store closings, and ways to raise cash.
Industry experts say some of these companies may even find themselves going straight to liquidation rather than restructuring. “There are five or six public companies that are teetering right on the brink and given this credit environment frankly they could go away any moment. Anything can happen,” said Howard Davidowitz, chairman of retail consulting and investment banking firm Davidowitz & Associates.
By this time of year, most retailers have their stock for holiday shopping, which enables them to hold out against financial pressure until after the season. “Orders have long since been placed and shipments have been made. Inventories have been built up for the holidays,” said Craig Johnson, president of Customer Growth Partners, a consumer consulting and research firm. But that inventory build-up depletes cash, giving retailers few options if they run into trouble.
As a global financial crisis deepens, and consumers spend less over the holidays, this year could be different. “My own opinion is that we will see more store closures before the holidays and more bankruptcy filings before the holidays,” said Walter Jones, a turnaround consultant at J.H. Cohn LLP in New Jersey. If they are facing bankruptcy, retailers must focus on keeping only their best stores going, he said. “By closing more stores, they produce more cash from the inventory in those stores, which would generally give them more options,” Mr. Jones said.
Retailers’ cash positions typically peak just before the New Year, putting them in the strongest position to file for bankruptcy protection and reorganize, experts said. “The way the game is played is to suck in the suppliers, build up your cash, then file. That puts you in the best position to come out on the other side,” Mr. Davidowitz explained. “It buys you more time.”
If retailers manage to come out on the other side of the holidays, the next hurdle will be finding sources for debtor-in-possession financing to get through bankruptcy. Many of those sources have dried up as credit markets tightened and banks became more risk averse. Companies will have to turn to their existing lenders for a shot at securing increasingly pricey DIP funding, giving their current bankers a larger role in how those bankruptcies proceed.
“It’s unclear to me whether existing lenders will think they are better off to wait until after Christmas,” said David Heiman, a bankruptcy attorney at Jones Day. That is particularly true if loans are based partly on inventory, which will be reduced by holiday sales, he said. But some merchants may not be able to take in as much stock as they would like to so they can compete during the holiday season, Mr. Johnson said.
He cited consumer electronics retailer Circuit City, which has been facing stiff competition from Best Buy and Wal-Mart. A Circuit City spokesman declined to comment. Some retailers have come under pressure from credit rating agencies ahead of the holiday season. Standard & Poor’s has assigned a “B-“ or lower credit rating to Eddie Bauer Holdings, Claire’s Stores Inc, Guitar Center, Loehmann’s and Oriental Trading Co, meaning their debt is regarded as highly speculative or with substantial risks.
Department store group Gottschalks Inc recently said its stock would no longer be traded on the New York Stock Exchange, but that it had been working to shore up its liquidity. “It’s a safe bet to say that there is going to be some shakeout in the industry,” said National Retail Federation spokesman Scott Krugman. “But at the end of the day, it’s healthy. It’s healthy because it creates a more nimble economy and from a retail industry perspective it creates an industry that’s better poised for recovery.”
Underfunded pension plans eat away at earnings
It’s beginning to look as if large companies may end the year with their pension plans more underfunded than ever—and a handful of corporations are already acknowledging that these deficits are likely to have a significant impact on earnings. Combined, the defined-benefit plans of companies in the S&P 500 are now underfunded in excess of $200 billion, according to an estimate by Standard & Poor’s senior analyst Howard Silverblatt.
Even if equity markets remain flat for the remainder of the year, these plans will likely end up being more severely underfunded than they were in 2002, when their combined pension deficit was a record $219 billion. This will require companies to infuse cash into their plans both this year and next to shore up funding levels, Mr. Silverblatt noted, a factor that would increase their pension expenses and drag down future earnings.
Indeed, several companies—including Lockheed Martin, Boeing and United Technologies—recently noted on earnings calls that their massive pension funds have taken a substantial hit in recent weeks as the equity markets have tumbled. (More than 60% of large corporations’ pension assets are invested in equities, according to S&P data.)
Lockheed Martin executives, for instance, acknowledged this week that the assets in the company’s $27 billion plan had declined by roughly 25% since the beginning of September. If the plan is underfunded at the end of the year, the company will have to make contributions that could translate into a $60 million expense—a move executives said could trim 30 cents a share off its future earnings.
Finance executives at other large companies, such as Boeing and United Technologies, also noted during their third-quarter calls that their pension plans’ assets have declined by more than 20% because of the recent plunge in global equity markets. At Boeing, CFO James Bell said he’s now expecting the company’s pension expenses to rise by roughly $100 million next year, even though its $50 billion pension was overfunded at the end of the third quarter.
At United Technologies, CFO Gregory Hayes noted on the earnings call that pension expense is “obviously going to be a headwind,” but he did not specifically say how much its pension costs might increase. He said that through the end of September, the assets in UTC’s $23 billion plan declined by 22%, a stark contrast to the 8.5% return it expected for the year.
As a rule of thumb, Mr. Hayes noted, “for every one-percentage-point miss, it costs us about $6 million in additional pension expense.” Given the year-to-date return and the company’s 8.5% assumption, this 30-percentage-point miss would translate into $180 million in pension expense.