Currencies Fall as Fears Spread and Stocks Slip
By MARK LANDLER and VIKAS BAJAJ - The New York Times
Published: October 24, 2008
WASHINGTON — Fear that the financial crisis is infecting once-healthy economies created another white-knuckle day for investors Friday, causing stocks to tumble from Tokyo to New York.
Uncertainty also roiled currency markets as investors continued to turn to the security of the United States dollar and the Japanese yen and drove down currencies of developing countries like Brazil, Ukraine and South Korea and even of developed countries like Britain.
In the United States, where the crisis began, investors were less alarmed than elsewhere. A rout in Asian and European stock markets sent the Dow Jones industrial average swooning by more than 500 points in early trading in New York, but it recovered enough ground through the day to leave the Dow down 312.30 points, or 3.6 percent.
Just a year ago, a drop of that size would have been considered a black day in the markets, but in these days of routine triple-digit declines, it offered a modicum of relief to traumatized investors.
Still, there were chilling new developments that attested to the wide scope of the crisis, despite efforts by heads of state, central bankers and corporate leaders to stop the bleeding. Cash flowed into the dollar and the Japanese yen, the two most sought-after safe havens in a storm-tossed world, as it fled from emerging markets.
Hedge funds and other investors are pulling money out of these countries on an immense scale, analysts said, and putting it into dollars and yen. There were few safe harbors, as commodities also tumbled. Fears of a spreading global recession caused oil prices to fall 5 percent, to $64.15, even after OPEC, the oil cartel, announced it was cutting output. Government-backed mortgage bonds and debt issued by top-rated corporations were also dragged down in the undertow.
“This is a panic in the way of the fine 19th-century panics, where we all run around like headless chickens,” said R. Jeremy Grantham, chairman of the Boston-based investment firm GMO, who had predicted stocks would tumble. “I have been in the business for 40 years, and I have never seen anything like this.”
So great are the concerns among policy makers about the turmoil in currency markets that it has prompted talk of a coordinated intervention by the leading industrial countries in coming days, to quell the soaring dollar and put a floor under emerging-market currencies.
Such a move — in which the Federal Reserve and other central banks would sell dollars and yen and buy other currencies — has been used extremely sparingly by the United States in recent years.
“The risk is huge, but it is appropriate at this point, because if the emerging markets go into default, the consequences would be catastrophic,” said Kenneth S. Rogoff, an economist at Harvard.
When a developing country’s currency loses value rapidly, it impedes the ability to pay back loans from Western banks. That could cause a rash of corporate or even government defaults — a feature of previous financial crises in Asia and Latin America.
In the United States, the rescue effort may also grow. The Treasury Department, officials said, is weighing whether to expand its program of capital injections to encompass insurance companies, many of which own savings and loans, and is under pressure to include the financing arms of the auto companies. The government injections are currently reserved for banks.
The Treasury Secretary, Henry M. Paulson Jr., appears to be drawing the line at investing in hedge funds, which, officials note, do not supply credit to the economy and are in the business of taking on large risks.
Indeed, hedge funds accounted for some of the turmoil on Friday. They are being forced to sell their stocks, bonds and other instruments to pay off their investors and lenders. Beyond that, investors are increasingly convinced that the global economy is headed for a long, painful recession.
“There has been tremendous activity in the currency markets, the commodity market and the stock market that reveal the fingerprints of forced selling,” said Marc D. Stern, chief investment officer of Bessemer Trust, an investment firm based in New York.
The flight to safety is hurting once-mighty currencies like Britain’s pound. On Friday, worries about how the financial crisis would affect Britain’s economy caused the pound to lose 8 cents against the dollar, falling to $1.53.
While a strong dollar might be a boon for American tourists abroad, it creates a host of problems for economies.
And the downdraft of the pound and the euro — which fell to $1.26 against the dollar on Friday, its lowest level in two years — is less serious for the economic well-being of Britain and Europe than the deterioration of currencies like the Mexican peso or the Russian ruble.
Even if the Federal Reserve, the Bank of Japan and other central banks intervened in the foreign-exchange markets, it was not clear that it would reverse the pressure on these currencies.
“I don’t see this as a crisis breaker,” said Simon Johnson, a former chief economist of the International Monetary Fund. “But it would help emerging-market companies, and give everyone a chance to catch their breath.”
The last time the Federal Reserve intervened in currency markets was in September 2000, when it teamed up with the European Central Bank and the Bank of Japan to shore up the faltering euro. Before that, the United States and Japan teamed up to buy yen during the Asian crisis in June 1998.
With President Bush convening a meeting of the Group of 20 nations in Washington on Nov. 15, analysts said there would be pressure on the United States and other Western countries to show they were trying to cushion the blow of the crisis on developing countries.
The International Monetary Fund is trying to arrange a large credit line to help developing countries desperate for dollars. On Friday, Iceland announced it had reached a tentative deal for a $2 billion emergency loan from the fund — making it the first country to seek aid from the fund during this crisis, and the first Western country to do so since 1976.
The bad news started early Friday in Tokyo and Seoul, where big companies like Toyota, Sony and Samsung disappointed investors with their earnings. It continued as trading opened in Europe, with Britain reporting that its economy shrank in the third quarter.
By the time investors awoke in New York, stock futures had fallen so far that trading in them had been halted. Investors were on notice that the market could fall at least 6 percent, perhaps much more.
As trading started, the Dow dropped 450 points, or about 5 percent, and the floor appeared calm. Some traders said they took solace in the fact that the decline had not been greater — and far from the 1,100-point drop that would force a trading halt on the Big Board.
“It was frightening, absolutely frightening,” Warren Meyers, a floor trader for Walter J. Dowd Inc., said early on Friday. “Every day we are walking on shaking ground.”
Stocks seesawed for much of the rest of the day. A report that existing home sales jumped 5.5 percent in September as banks unloaded foreclosed homes did little to help the market.
But at about 2 p.m., stocks started rallying and by 3 p.m. the Dow was down by just 100 points for the day. It was unclear what was fueling the rally, though investors seemed cheered by reports that the Treasury was weighing investments in insurance companies.
The market, however, was not able to build on those gains and fell sharply at the end of trading, dropping 183 points in just 10 minutes.
The Treasury’s benchmark 10-year note fell 3/32, to 102 18/32, and the yield, which moves in the opposite direction from the price, was at 3.69 percent, up from 3.67 percent late Thursday.
As is often the case when stocks fall steeply, the market is starting to entice some investors, many of whom say they have never seen prices so low, to buy. Among them is Mr. Grantham, the GMO chairman.
After years of warning that stocks were unreasonably overpriced, he said he now believed they were below their fair value and had been slowly acquiring holdings in blue-chip companies.
“It’s a very nerve-racking time to be a value investor,” Mr. Grantham said. “You put a little bit into the market, and the next day you think, ‘What an idiot, what an idiot.’ ”
America's economic meltdowns
Financial panics? The United States has had its share.
By John Lauritz Larson January 4, 2009
To listen to the pundits, one would think that today's banking crisis and financial meltdown is something rare and exotic. But those who stayed awake in their history classes know that financial panic is a familiar "plot device" in the drama of modern capitalism. Speculation has been followed by collapse at least as far back as the South Sea bubble of 1720. The American experience with such wholesale crises began in 1819. The Panic of 1819 followed a period of crazy exuberance during which ordinary, nose-to-the-grindstone people found themselves tempted to risk too much. In the years leading up to 1819, a booming demand for cotton fueled a price spike. Men with money got rich buying and selling land and slaves as cotton prices rose dramatically. Men without money borrowed to invest, betting on the windfall from next year's crop.
While the tide rose, poor men grew rich and thousands of speculators rushed in to grab a share, pushing prices far higher than could be sustained. By the time the bubble burst, as bubbles do, speculators had cashed out, leaving the real producers to watch the value of their not-yet-harvested crops plummet by half. Banks failed and money disappeared, until perfectly sound businessmen could not collect receivables, buy raw materials or locate the cash to pay wages. An estimated four-fifths of Philadelphia's skilled artisans faced the winter of 1819-1820 without work -- in an age with no benefits, no welfare, no Medicaid. Our ancestors first interpreted panics as punishment for licentiousness. But experience showed that virtuous men and women suffered the most distress. What kind of an economic system rewarded the crooks and ruined the folks who toiled that others may eat? Panics always subsided, then they came back again. A cotton boom recurred in the 1830s, collapsing in 1837. Unemployment spiked once more, but now three times as many Americans lived in cities and relied on wages for food, shelter and fuel. Working-class savings banks failed -- many small sums laid by against hard times had been squandered by the banks in real estate speculation. (Sound familiar?) Some cities, such as Lowell, Mass., discovered that a handful of large employers completely controlled their fortunes. They had grown "too big to fail."
The next three big panics -- in 1857, 1873 and 1893 -- fed off railroad development accompanied by currency and stock speculation. Every boom fed the dreams of small-town boosters, that one more mile of shiny rails would buy them a seat at the rich man's table. Each panic squeezed out the excess but also cut to the bone of subsistence for men and women who lived from payroll to payroll. In the speculators' game, the hammer always falls, but rarely on those who deserve it. In the 20th century, we erected safeguards against these devastating cycles. In 1913, our Federal Reserve system was established to rescue banks from such sudden crises of confidence. Still, the Crash of 1929 yielded a worldwide Great Depression. New Deal reforms -- especially the Glass-Steagall Act of 1933, which created the FDIC and barred commercial banks from Wall Street speculation -- helped limit the effect of panics on ordinary people. But capitalists always invent new ways to cheat on the rules, like the now-infamous "credit default swaps." Beginning in the 1980s, the enemies of New Deal policies stripped away regulations and allowed speculators to take outrageous risks that former Fed Chairman Alan Greenspan claims he could not have imagined. Too bad he never looked in the rearview mirror!Since the early 19th century, we Americans have enslaved ourselves to complex markets. There is a core economy producing basic goods and services, but onto that "real" economy we have grafted a game of chance. Producers make things of value while various agents assist legitimate transactions and profit from the value added by their services. Alas, these facilitators also can profit from random fluctuations in supply and demand, imperfect information or moments of distress. Such speculative gains can be innocuous -- or they can drive the machine off a cliff. In short, financiers play a dual role as servants of the system and interested profiteers. True gamblers will bet on anything. (What are the odds you will be dead tomorrow? Behold the birth of life insurance.) Just as surely, gamblers angle to game the system. (Who can I pay to make sure you're dead tomorrow? Enter regulation.) Bankers are not all crooks -- but sometimes, some bankers are. This is why markets require regulations.Panics expose how the game of chance can ruin the core economy. These days, we cannot retreat into semi-subsistence, grow our own food and sit tight under our own vine or fig tree -- advice freely given in 1819. Still, there is no reason to submit to absurd abuses by self-serving gamblers who toy with the people's welfare. The history of panics ought to remind us that independence was the first objective of America's founders. A market economy can be made to serve the common good, but when you license it to make a killing, you just might get killed.
John Lauritz Larson teaches history at Purdue University.