Asia Turmoil May Signal Bigger Woes
Asia’s financial woes, which a few weeks ago were expected to result in just a mild “flu” for the rest of the global economy, now are raising concerns about something more serious ahead.
The potential for worldwide recession, and a full-blown Japanese banking crisis, have become far more widely discussed in financial circles in recent days. Even if such calamities don’t materialize, many economists are now conceding that U.S. economic growth could be hurt more than originally anticipated.
Those fears were reflected in another sharp decline in many world stock markets on Wednesday, including a 157.41-point, 2.1% slide in the Dow Jones industrial average, to 7,401.32. On Thursday, the Dow rebounded somewhat, gaining 86.44 points, but the market overall remained weak.
What’s more, Federal Reserve Board Chairman Alan Greenspan did little to assuage investors’ concerns on Thursday, when he testified before the House Banking Committee about the potential fallout from Asia’s turmoil on the U.S. economy.
“It is in everybody’s interest, and especially the interests of the United States, that this weakness in the Asian economic and financial system be reversed as quickly as feasible,” the Fed chief said.
Greenspan would not quantify the possible effects of the crisis on the United States, but in the tortured English he often uses on Capitol Hill, he said the impact “can be expected not to be negligible.”
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Even without the added weight of Greenspan’s words, some economists have been persuaded by other warning signs that the economic outlook has been worsening:
* The Brazilian government’s decision Monday to adopt an economic austerity plan to pare government spending--a plan aimed at staving off an Asia-style currency devaluation--confirmed that Latin America had been infected by Asia’s illness.
The announcement triggered a 10% decline in the Brazilian stock market Wednesday, bringing the market’s decline from its 1997 peak to a stunning 44%--and ensuring that Brazil’s economy will slow markedly in coming months, in turn dragging the rest of the region down.
* Stock prices worldwide have been tumbling again in recent days, after initially rebounding following the Oct. 27 mini-crash that was triggered by a plunge in Hong Kong share prices.
Despite eager bargain-hunting by some investors in the days after the Oct. 27 plunge, the renewed declines “are telling you that markets are finally beginning to be worried about corporate earnings” in 1998, said David Shulman, investment strategist at brokerage Salomon Bros. in New York.
* Long-term bond yields have slid in the United States to their lowest levels since early 1996, reflecting in part some investors’ expectations for much slower economic growth next year.
To be sure, most Wall Street advisors still don’t believe that Asia’s problems, which began with widespread currency devaluations in July and have since triggered stock market plunges and soaring interest rates across the region, will have a dramatic effect on the U.S. economy.
Many experts predict only a modest slowdown in the U.S. economy in the first half of 1998, as export growth stagnates because Asian nations whose currencies have been sharply devalued won’t be able to afford as many U.S. goods. Asia, as a whole, buys about one-third of U.S. merchandise exports.
Gail Fosler, economist at the Conference Board in New York, projects that U.S. real economic growth will decline to 3% in 1998 from what she believes would have been a 3.25% rate had Asia not stumbled into trouble.
The oft-cited refrain about the U.S. economy is that it is largely dependent on itself: Internal production and consumption of goods and services account for about 80% of economic activity; trade, meaning both imports and exports, accounts for the final 20%.
But analysts point out that world economies and financial systems are far more intertwined than those trade figures suggest. In particular, the many billions of dollars in credits and debits among banks and other financial institutions worldwide provide electronic highways by which trouble can spread among economies.
“Banks are recyclers of money; as such, they are quick to catch and pass along problems,” noted Ray Dalio, head of financial advisory firm Bridgewater Associates in Wilton, Conn.
This week, Wall Street was riled by rumors that New York banking giant Chase Manhattan Corp. had suffered deep losses trading emerging-market country bonds, many of which plunged in value in October as investors continued to yank money from many Asian nations and other developing countries.
On Thursday Chase confirmed that it lost $160 million before taxes in such bond trading in October, an amount that the bank said may be large enough to keep it from achieving its earnings growth targets this year.
Chase’s stock price has plunged 15% in recent weeks on concerns about its exposure to foreign-market troubles. Other U.S. bank stocks also have fallen sharply.
Greenspan, asked specifically about bank trading activities in depressed foreign securities, said losses so far “in no way threaten in any means whatever the financial status of those institutions.”
But the bigger worries about the global financial system center not on U.S. banks, but on Japanese banks.
“The real problem that would keep the world awake would be a cracking of the banking system in Japan,” said James Annable, chief economist at First Chicago/NBD in Chicago.
Weakened in the early 1990s by the twin crashes in Japan’s stock market and real estate market, Japan’s banking giants remain saddled with hundreds of billions of dollars in bad loans.
Now, the economic crashes across the rest of Asia are sure to add to those bad loans, as some Asian companies that had borrowed from Japanese banks find themselves unable to make payments, with their currencies devalued by 30% or more against the Japanese yen.
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What’s more, Japanese exporters, which sold 40% of their total exports last year to Southeast Asia, face the prospect of much lower sales in 1998. That could further dampen economic activity in Japan, creating a new drag on the beleaguered banking system.
Deepening concerns about the health of Japanese banks has forced many of those institutions to pay more for money in the global borrowing market in recent weeks, as other banks add a “risk premium” of as much as 0.20 percentage points to the rate they charge Japanese banks to borrow.
And fears that the Japanese economy overall--still the world’s second-largest, after the United States--is headed back into recession have triggered a sell-off in the yen in recent weeks, driving its value down to nearly 126 to the dollar, a six-month low.
In addition, the Japanese stock market has fallen to its lowest level in more than two years.
If Japan should spiral into recession or into a full-blown banking crisis, many economists concede that they would be forced to further lower U.S. economic growth estimates.
For its part, Japan still seems uncertain about how to deal with its massive problems. Yet many experts doubt that the worst-case scenario--a failure of a major Japanese bank--is likely to occur, simply because the Japanese government is certain to stand behind its major institutions.
“I don’t see the biggest banks falling apart in Japan,” said Henry Kaufman, economist at Henry Kaufman & Co. in New York.
At the same time, however, he said that policy-makers in the United States and elsewhere are facing the reality that there is no easy way to deal with the collapse of many Southeast Asian economies, and the likelihood that Latin America now will suffer a growth slowdown as well.
While Greenspan suggested Thursday that the crisis needs to be brought to a quick close, exactly how to do that remains unclear.
Unlike with the Mexican peso devaluation of 1994, which brought the United States quickly to Mexico’s aid, Asia’s troubles now are so widespread--with contagion also infecting Japan and Latin America--that “this crisis has no center, and therefore no quick fix,” Annable said.
For now, the best-case scenario is that no additional shocks hit the world economy, and that U.S. consumers and companies, and perhaps European consumers and companies as well, maintain a strong pace of spending and investment to offset the weakness elsewhere in the world.
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