Oh, Great: A Second Epicenter

by hilzoy

Paul Krugman:

"The really shocking thing, however, is the way the crisis is spreading to emerging markets -- countries like Russia, Korea and Brazil.

These countries were at the core of the last global financial crisis, in the late 1990s (which seemed like a big deal at the time, but was a day at the beach compared with what we’re going through now). They responded to that experience by building up huge war chests of dollars and euros, which were supposed to protect them in the event of any future emergency. And not long ago everyone was talking about "decoupling," the supposed ability of emerging market economies to keep growing even if the United States fell into recession. "Decoupling is no myth," The Economist assured its readers back in March. "Indeed, it may yet save the world economy."

That was then. Now the emerging markets are in big trouble. In fact, says Stephen Jen, the chief currency economist at Morgan Stanley, the "hard landing" in emerging markets may become the "second epicenter" of the global crisis. (U.S. financial markets were the first.)

What happened? In the 1990s, emerging market governments were vulnerable because they had made a habit of borrowing abroad; when the inflow of dollars dried up, they were pushed to the brink. Since then they have been careful to borrow mainly in domestic markets, while building up lots of dollar reserves. But all their caution was undone by the private sector’s obliviousness to risk.

In Russia, for example, banks and corporations rushed to borrow abroad, because dollar interest rates were lower than ruble rates. So while the Russian government was accumulating an impressive hoard of foreign exchange, Russian corporations and banks were running up equally impressive foreign debts. Now their credit lines have been cut off, and they’re in desperate straits.

Needless to say, the existing troubles in the banking system, plus the new troubles at hedge funds and in emerging markets, are all mutually reinforcing. Bad news begets bad news, and the circle of pain just keeps getting wider."

Krugman is not alone: stories about currency crises and emerging markets are popping up all over. The WSJ:

"Sharp moves in global currency markets are being driven by short-term factors such as the fear of economic distress and the unwinding of trades that depended on borrowed money. But the currency swings are likely to have long-term economic implications for developed and emerging economies.

The dollar and the yen have both soared against nearly every other global currency over the past month as investors became convinced that a world-wide recession was looming.

The dollar has strengthened 16% against the euro, 24% against the Mexican peso, and 9% against the Russian ruble and on Friday it hit a high against the Indian rupee. The surge has brought to an end 2½ years of dollar weakness, according to a Federal Reserve index that measures the buck against 26 currencies. (...)

For emerging markets, rapid currency declines have been "very disruptive," says Richard Clarida, global economic adviser at Pacific Investment Management Co. and a professor at Columbia University. "It ends up impairing confidence in markets and generating an inflation problem."

To combat these sharp moves, Brazil, Mexico, Russia, and India collectively have drawn down their reserves by more than $75 billion since the end of September, selling dollars to protect their currencies, according to Win Thin of Brown Brothers Harriman."

Check out what's happening to some stock markets overseas:

"Markets down more than 70%: Vietnam (-70.5%), Peru (-73.2%), Ireland (-73.4%), Russia (-73.9%), Iceland (-88.7%).

Markets down between 60% and 70%: Hong Kong (-60.1%), Poland (-62.6%), China (-69.8%).

Markets down between 50% and 60%: South Korea (-54.5%), Italy (-55.2%), Egypt (-56.9%), Brazil (-57.2%), Japan (-58.1%), Singapore (-58.2%), Turkey (-58.5%), India (-58.3%)."

(You might ask: isn't Pakistan supposed to be having trouble? Yes, but they've put an artificial floor on their stock market, so it can't go down.)

When a country's currency tanks, imports become more expensive, and any debt it has that's denominated in a foreign currency suddenly becomes a lot more expensive. For countries that depend on imports and foreign capital, or that have substantial debts that are not in their own currency, it can be ruinous. A lot of developing countries really don't have piles of spare money just lying around, waiting to be used for the defense of their currencies. Nor can their economies absorb serious capital flight.

Cleveland has it bad. But developing countries have it much, much worse. And something tells me that neither foreign aid nor charitable giving are going to be very strong for the foreseeable future.

Comments

[frank]

Off topic but check it out. This will win McCain some votes.

http://ca.youtube.com/watch?v=iivL4c_3pck

His redistribution plans and intent in detail in his own voice. More than a smoking gun.

I suspect that you guys are probably true believers in the joys of wealth redistribution ... but most of the country is not. This piece will resonate with ALOT of people who, until now, just cannot believe that Obama really wants to do this.

[frankfrank]

This article is actually on topic.

http://pajamasmedia.com/rogerkimball/2008/10/26/europe-on-the-brink/

I think it fleshes out some more details of the situation in other countries.

[blizzardofoz]

Right... because the worst thing in the world would be to confiscate some of the wealth of the top 0.1% who own both political parties and our media. If Obama wanted to try that I'd cheer him on, if only to enjoy the apoplectic fits that would result. Ultimately though, I'm sure there is nothing to worry about, as intrepid souls like yourself will nobly defend the plutocracy that has started pointless wars and destroyed our economy against the protests of their cannon fodder.

[joel hanes]

Uh, frank ?

40 % of the taxpaying households benefit from the EIC. The EIC is "redistribution of wealth".

Social Security is "redistribution of wealth". So are Medicare and Medicaid. These are the among most politically-popular programs of the Federal Government.

Red states in the west depend on federal largesse in the form of below-cost grazing permits, logging permits, BLM water development, highway development. These programs are "redistribution of wealth" from more-productive taxpayers in more-productive regions of the country.

Sarah Palin's Alaska will pay each Alaskan citizen more than $2000 this year. This is an example of ....

Real Americans love them some redistribution of wealth, as long as they're on the receiving end. McCain's best hope is to fool about half the people who are net recipients of wealth distribution today into believing that they are among those who will be asked to provide funds for redistribution to [swarthy] undeserving Others.

[avedis]

As Joel points out - and his list is much abreviated; add to it, say, Public Education, Veterans benefits, Wall Street Bailout..... - redistribution is the American way.

When McCain/Palin and certain supporters talk about redistribution the way they do I think we really have closet racism. The coded message is an amalgamation of that old (black) welfare queen myth and the (black) quota myth that are permanently lodged in rightwing brains.

Either way, the McCain camp is insulting our intelligence with this line of attack (meaning series of lies). It will backfire on him as most everything he has done during the campaign already has.

[Roy Zimmerhansl]

I've posted an extract of the astounding negative performance of the global markets in my blog.
http://www.stocklendingtoday.com/my_weblog/2008/10/monday-markets---ugly-ugly-ugly.html
Unbelievable.

[yave begnet]

Foreign aid and charitable giving are negligible even during good times. Peter Singer's plan to save the world through increased giving will never work.

In the short term, there will be a lot of pain. In the long term, we need a more democratic UN that distributes power more equitably so that poorer countries can assert their interests against the rich ones. Otherwise, they'll just keep getting screwed.

[cleek]

I suspect that you guys are probably true believers in the joys of wealth redistribution ... but most of the country is not.

which is why the midwest is always clamoring to get rid of their farming and ethanol subsidies.

such rugged independence is the backbone of this great country.

[Don the libertarian Democrat]

I might be wrong, but I see massive IMF intervention ahead.

[ThatLeftTurnInABQ]

I might be wrong, but I see massive IMF intervention ahead.

I do too, with the very small problem that the IMF has massively less money than the problem requires.

[someotherdude]

Of course, this all distracts from the man most responsible for radical wealth distribution of the last two decades. I refer to former-Maestro-turned-stumblebum Alan Greenspan who helped engineer and lubricate the most accelerated transfer and redistribution of wealth --upwards-- in modern American history. Please, no one pay attention to the man with the dunce hat on in the corner. That CEO's now make 600 times what a line worker does and that real wages have stagnated could never, ever, ever be considered "spreading the wealth." Oh, heavens no.

-- Marc Cooper

[ken]

You missed the most important point of the Krugman article:

"There’s also bizarre stuff going on with regard to the mortgage market. I thought that the whole point of the federal takeover of Fannie Mae and Freddie Mac, the lending agencies, was to remove fears about their solvency and thereby lower mortgage rates. But top officials have made a point of denying that Fannie and Freddie debt is backed by the “full faith and credit” of the U.S. government — and as a result, markets are still treating the agencies’ debt as a risky asset, driving mortgage rates up at a time when they should be going down."

I have complained before about this and have pointed out that the Treasury agreement with the GSE's only lasts through the end of 2009. At that time their ultimate dispostions will be determined.

There are two options: 1) fully privatized stand alone entities with no government gaurantees, or 2)returned to prior hybrid status with government gaurantees on debt but with adequate regulation to prevent problems in the future.

Without a clear policy that all GSE debt is forever gauranteed investors have been refusing to buy agency paper except at exhorbant prices. This is not good.

McCain has written an op-ed published in the WSJ calling for the GSEs to be fully privatized. This is unacceptable. The GSEs are irreplacable and without them the real estate industry will never recover.

Obama is not much better. He has not made his postition clear. This too is not acceptable. As the likely successor to the white house his policies have an effect on markets right now. And markets are not confident in Obama. He needs to make a clear unabigious statement that the full faith and credit of the United States stands behind every penny of agency debt.

[Debbie(aussie)]

Just in case you may be interested, Aus$0.61 against US$, this morning. About three weeks ago it had was almost even (highest for years, maybe ever). It only stopped it's downward spiral because of the intervention of the ARB(aus reserve bank).