German Rate Cuts Spark a Surge on Global Markets : Finance: Dow Jones rises 70.52 points, biggest 1-day jump of year. Bundesbank's small reductions pave the way for a new round of lowering interest rates.

By JOEL HAVEMANN and WILLIAM D. MONTALBANO

Sept. 15, 1992 12 AM PT

TIMES STAFF WRITERS

BRUSSELS —

A wave of optimism swept over global financial markets Monday--sending stock prices soaring and the battered U.S. dollar surging--as Germany moved to cut sky-high interest rates that have helped to hold back economic growth in the United States and worldwide.

In New York, the Dow Jones industrial average recorded its biggest one-day jump of the year, rising 70.52 points to 3,376.22, following the action by the German central bank to lower key lending rates. Other major stock markets around the world--from London to Frankfurt to Tokyo--posted major gains.

The action by Germany’s Bundesbank also helps to pave the way for a new round of interest rate cuts--and potentially stronger economic growth--for the United States, though analysts cautioned that the benefits of lower rates may not surface in America until sometime next year.

As promised Sunday, the Bundesbank eased interest rates on Monday for the first time in five years, although the action was less dramatic than some had anticipated. The central bank dropped rates by 0.25 percentage point to 9.5% on short-term bank loans and by 0.5 percentage point to 8.25% on other bank loans.

That was far too little to close a gap of about six percentage points between German and American rates. But analysts said they expected more reductions to follow, and they applauded the German government for taking what many consider long-overdue measures to stimulate the economy.

“The speed of the descent may be slow, but the swing in the cycle is unmistakable,” said John Shepperd, a senior economist with S. G. Warburg Securities in London. He noted that German rates have been rising without interruption since 1988, while the United States and Japan have been reducing their rates.

The news was tonic for the beleaguered dollar, which had fallen to record lows against the German mark in recent weeks as investors sought the greater rates of return available in Germany. The dollar soared in value to 1.48 marks at the close of trading in New York on Monday, up from 1.45 marks on Friday, although down from a surge to 1.51 marks in early Asian trading Monday.

Early today in several Asian markets, the new enthusiasm for the dollar already appeared to be waning. By midmorning, it was trading at 1.478 marks, and at 123.97 Japanese yen, down from 124.30 yen at the close in New York on Monday.

In the United States, short-term interest rates fell as investors bet that the rate cut in Germany would give the Federal Reserve room to reduce rates further--or at least not to raise them soon--in its effort to boost the sagging American economy. Three-month Treasury bills were auctioned for an average discount rate of 2.89%, the lowest rate in 29 years.

Markets were no less buoyant in Europe. In London, the Financial Times-Stock Exchange 100 index gained 51.2 points to 2,422.10.

Germany’s announcement of interest rate reductions was quickly followed by similar moves in four other European countries--the Netherlands, Belgium, Switzerland and Austria. Their monetary policies are tightly linked to those of Germany.

And the Swedish government, which had jacked up its overnight lending rate to banks to 75% last week in a desperate effort to protect a run on its currency, brought the rate back down to 20%.

The only possible loser was Italy, which on Sunday devalued the lira by 7% against most other European currencies. The weaker lira will make Italian goods more competitive on world markets but will fuel inflation at home because imports will cost more.

Germany, which had spent billions of marks to buy lire in an ultimately futile effort to prop up the Italian currency, had demanded the devaluation in return for its interest rate cut.

Consequently, the dollar, which had fallen to an effective rate of scarcely more than 1,000 lire a week ago--less than half of its 1985 level--rebounded from Friday’s close of 1,097 to a fix of 1,170 in Milan on Monday.

That meant prices for Americans in Italy slumped from simply outrageous to normally obnoxious. A salad at McDonald’s slipped from $5.10 on Friday to $4.78 on Monday. An Italian daily newspaper that cost $1.09 on Friday was available for only $1.02 Monday.

In economic terms, the currency realignment arranged by Germany and Italy with the consent of their 10 European Community partners was intended to stabilize the lira and reduce pressures on other European currencies that have been hard-pressed by tight control of the mighty mark.

Politically, the surprise Sunday night initiative by the EC partners offered unabashed support for the French government on the eve of a close-run referendum on whether to ratify European unity.

The Bundesbank, in a 12-line announcement, said it was reducing its “Lombard rate”--the top rate on its short-term loans to commercial banks--from 9.75% to 9.5%. It cut the “discount rate,” the lowest rate available to commercial banks, from 8.75% to 8.25%.

“The Bundesbank is taking these measures by way of response to the changed monetary policy situation resulting from the devaluation of the lira, which situation enables it to adjust its policies,” it said.

EC President Jacques Delors welcomed the combined actions by Germany and Italy as demonstrating how EC members, working together, could solve problems that might otherwise be left unsolved. He called the events “an encouraging and reassuring example of what the Community is.”

At least for now, the action seemed to protect the British pound from devaluation. In London, the government hinted that it might lower rates. But some analysts, while publicly welcoming the German move, complained that the cuts were not deep enough. “It’s difficult to see how rates can move down quickly against this background,” said Shepperd, the S. G. Warburg economist.

In Italy, too, some analysts argued that the lira had not fallen far enough. One said a 15% devaluation would have left the battered lira at a more realistic par with the dollar and other European currencies.

“I think Italy still has a very long road to travel,” both to achieve the economic standards required to adopt the single EC currency, as scheduled in 1999, and to keep politics from “polluting” its economic policies, Delors said.

Although Prime Minister Giuliano Amato strongly defended Italy’s action and pointedly did not use the word “devaluation,” he immediately sailed into hostile waters.

Critics on the left warned of new inflation to come. From the right came gloomy forecasts. Italy is bedeviled by political paralysis that aggravates a profound economic crisis of debt and deficit of which a weak lira is an embarrassing manifestation.

Devaluation was imposed by the market because the Italian government had not redressed public finance imbalances, said Innocenzo Cippoletta, director of the industrial federation Confindustria.

“The measures which were urgent yesterday will be more urgent tomorrow to avoid the realignment becoming a phenomenon of mistrust in the whole Italian economic system,” he said.

Havemann reported from Brussels and Montalbano from Rome. Times staff writers William Tuohy in London and Tom Petruno in Los Angeles also contributed to this report.