Newsreal: Market panic

As the stock market suffers its worst day since 1987's 'Black Monday,' all eyes turn to the East.

Published October 28, 1997 8:00PM (EST)

the financial tremors coming out of Asia hit home with a vengeance on Monday. The U.S. stock market, panicked by the sharp sell-off on Hong Kong's stock exchange and fears that the long bull market is ending, suffered its worst day since "Black Monday," Oct. 19, 1987. The Dow plunged 554.26 points, finishing the day down 7.2 percent, and NASDAQ posted its biggest-ever one-day point loss. In accordance with a new rule passed after "Black Monday," trading was halted on all major U.S. exchanges.

Markets in the rest of the world felt the effects, too. After a week of record losses, stock markets in Hong Kong -- where there are persistent fears that local Hong Kong currency will be delinked from the strong U.S. dollar -- and Tokyo continued to plummet Monday, sparking similar losses in Europe, Britain, Brazil and South Africa.

While investors and market analysts are focusing their attention on Asia, they are also keeping an eye on Chinese President Jiang Zemin, currently on a visit to the United States, for any sign that he is considering floating the Hong Kong dollar. The markets are also eagerly anticipating a report later this week by Federal Reserve Chairman Alan Greenspan on the U.S. economy.

Greenspan triggered a stock sell-off earlier this month when he said the boom in the U.S. economy was unsustainable and that the current rate of gains in the stock market was unrealistic. His report Wednesday to Congress' joint economic committee will be his first public assessment of the economy since Asian economies began to take a battering, and many analysts and investors will be carefully monitoring his remarks to discern what impact the turmoil in Asia has had so far in the United States.

One of those who will be listening closely is Scott Pardee, a former Treasury Department official and officer with the Federal Reserve who now works on Wall Street as a senior advisor to Yamaichi International, a Japanese investment group. Salon spoke to Pardee for an update on Asia's financial woes and how they will affect the United States.

Many Americans don't quite understand what is going on with Asia's financial markets. First of all, what kind of money are we talking about in the plunging of Asian currencies and stock market? Is there any way to quantify what is at stake here?

Well, in Thailand alone, they went through $23 billion. The numbers can be awfully big, but the central banks of these countries are the only ones with precise figures. Sometimes when stock markets are dropping, the turnover isn't so great. It's just that you're losing capital values. But in general, we're talking about tens, if not hundreds of billions of dollars.

Why did the turmoil begin?

As long as economies are growing fast -- and they have been in most of Asia, 6 percent to 8 percent -- banks make a lot of loans, and investors make pretty big commitments to the stock markets as well. At the same time, you also get exuberances in various markets, as Alan Greenspan has warned about. If an economic boom is topped by political uncertainties, banking problems and a fixed exchange rate to a strong U.S. dollar, you have the recipe for the domino-type situation that we see now in Asia.

How did the dominos begin falling?

The first of the dominos to fall was in Thailand. There they had a booming economy for a number of years. But in politics, they have a highly revered king who has tried to make sure that the military no longer kills Thai civilians, as the military has done every time it took over the government. So the military simply took off the uniforms and became politicians. Ever since, they've been squabbling among themselves for power. Thailand has excellent technical people in the banks and in the Finance Ministry, but the politicians, who are corrupt, leave a lot to be desired.

Thailand could have avoided the problems it has today if they had taken some corrective measures over the past year. Both the International Monetary Fund and most market analysts had warned Thailand's leaders that their country was about to become the next Mexico unless they readjusted their fiscal and monetary policies. They didn't make these readjustments, and as a result they had to devalue their currency, the stock market plummeted and some 58 financial institutions have been forced to close. It turns out they had gambled almost all of their reserves -- almost $23 billion -- in the forward exchange markets. Now they've got a real mess on their hands, a classic financial crisis along the same lines that Mexico had in 1994-95. So they're going to have to get fiscal and monetary policy in place, restructure the banking and financial systems and reestablish Thailand's credibility in international markets. That's a process that's going to take a couple of years, but it will depend on the reestablishment of political stability.

Then what happened?

When the Thailand domino fell, three other Asian countries immediately got caught up in the turmoil -- the Philippines, Indonesia and Malaysia. None had situations as bad as Thailand, but they all had currencies pegged to a strong dollar, so they got hit pretty hard. The Philippines was quick to bring in the IMF, and they appear to have a stable political situation, so I'm not too worried about them. But in the case of Indonesia, we don't know what's going to happen. Politically, President Suharto and his family are among the most corrupt in all of Asia. Indonesia also has a banking problem that has emerged from all the turmoil in Asia. There was a lot of economic exuberance involving the banks. So Indonesia has all the makings of a classic financial crisis.

In the case of Malaysia, (Prime Minister Mohammed) Mattatir has been adding fuel to his own fire. Malaysia also was overexpanded, particularly in a number of public works projects that were not financed correctly. So they were headed for problems too. And Mattatir surely didn't help things by giving speeches that blamed his country's woes on foreign investors and Jews. But he's been doing that for years. It's part of his demagoguery.

How did the events in these individual Asian countries create a regional problem?

They all fit into a picture. When the markets decide that governments are not going to be able to hold to fixed exchange rates anymore, people are going to attack those rates. It becomes a one-way ticket to making money. So from there you go to Singapore and Hong Kong, which are sitting in the middle of all this. In Singapore, the exchange rate has already moved slightly, but they haven't suffered a massive attack because it's a well-managed country with no political issues and a banking system that hasn't had any of the kinds of excesses that we've seen in these other places. In the case of Hong Kong, a lot of people took their money out of Thailand, Indonesia and Malaysia and put it into Hong Kong, which was viewed as an island of stability. But when the contagion spread to Hong Kong, people started pulling their money out of Hong Kong too.

How much has the Chinese takeover of Hong Kong last July affected Hong Kong's ability to play the role as an island of stability amid the financial turmoil now roiling the rest of Asia?

Today in Hong Kong, the bet is that the Chinese government can't hold up under the assault on the Hong Kong dollar. But let's not forget that China took over Hong Kong with the idea of maintaining two systems under one country. That means a recognition of the benefits China accrues by maintaining the exchange rates of the Hong Kong dollar. So I would be very surprised if Chinese President Jiang Zemin, during his current visit to the United States, were to let the Hong Kong exchange rate go. Now this probably will hurt real estate companies and trading companies in Hong Kong, but it's very unlikely that it will hurt China's main bank there, the Hong Kong-Shanghai bank. It has some $80 billion in reserves. The China People's Bank, China's treasury, has another $120 billion in reserves. So I would imagine that Jiang will keep interest rates high in Hong Kong to protect the Hong Kong dollar. He has the reserves to back up such a political decision.

How does the situation affect Japan?

They have a problem. All of sudden, the currencies of all these Asian countries have gone down, and now these countries can export more to Japan, and Japan can't export as much to them. Japanese banks are heavily involved in the financing of all this stuff, but much of the exports from these countries is done by Japanese companies. For example, nearly 10 percent of Malaysia's industrial production is done by Matsushita. It's incredible how many Japanese companies have built factories in those countries. So those companies will now benefit because they will now be selling cheaper products from those places into Japan. But to the extent that Japanese banks have financed some of the infrastructure projects and other local projects, they're also going to suffer. It's yet another blow for the Japanese banks.

Could Japan fall into recession?

It could have a negative effect on the Japanese economy -- half of 1 percent, something like that. Don't forget that 30 percent of Japan's exports go to that part of the world. So yes, this is not good for Japan, and this is one reason why the Japanese stock market is getting kicked around and why there are efforts to get the Japanese to stimulate their domestic economy.

Finally, how is Asia's economic turmoil going to affect the U.S. economy?

First, U.S. firms that export to Asia are going to have less exports. That includes the makers of computers, computer chips and other electronic innards. We've already seen the impact of that on their stock prices. At this point, it's a question of demand. The Asian countries had been growing fast and buying computers as fast as they could. For the next couple of years, we might see a dampened demand for U.S. high-tech exports. But that doesn't mean all high-tech firms will suffer. Firms in Asia that are exporting to the United States will now have a cost advantage. As far as U.S. banks are concerned, they're not overly extended in Asia. It's more U.S. investors who have been hit on this. Then again, not many Americans have their life savings invested in Asia. It's more a question of asset relocation. But it's all happening at a time when our own stock markets are looking a little giddy. That's partly the result of the losses suffered by the high-tech stocks, but there's a general atmosphere of financial uncertainty out there.

I don't get it. The U.S. economy is doing very well, unemployment and inflation are both under control, and today President Clinton announced that the federal deficit is at its lowest point in two decades. How is this general financial insecurity expressing itself?

I can tell you that up here on Wall Street, the thing everyone is talking about is an article that appeared in Barron's over the weekend on deflation. Deflation is a situation in which wages and prices actually go down. The theory is that with the lower exchange rates on all these Asian currencies, these countries will be able to export more, and U.S. labor therefore will be competing with labor in those countries. So not only will prices and wages not come up; they'll go down. On that basis, the bond market looks good, but the stock market does not look so good.

Federal Reserve Chairman Alan Greenspan gives his update on the economy on Wednesday. What do you expect him to say?

Not much. He's going to keep very quiet. At this point, the turmoil in the markets means that the Fed is probably going to wait before it jacks up interest rates.

By Jonathan Broder

Jonathan Broder is Salon's Washington correspondent.

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