Wall Street's woes ripple around the world

World markets react
Bullit Marquez / Associated Press
Asian stock markets were hard hit Tuesday in reaction to the bankruptcy filing of Lehman Bros., the hastily arranged sale of Merrill Lynch and the shaky condition of American International Group. Above, a trader in Manila's financial district offers his sentiment.
Global stock markets reflect anxiety over exposure to the U.S. meltdown.
By Don Lee and Sebastian Rotella, Los Angeles Times Staff Writers
September 17, 2008
SHANGHAI -- Du Xiufeng, a small textile producer in China's industrial belt near Shanghai, is about as far from the drama on Wall Street as you can get. Yet neither he nor countless businesses in China and around the globe can escape the fallout from America's financial meltdown.

"The global market is already bad enough, and because of this our business will probably be even worse next year," said the wiry 34-year-old as he reflected Tuesday on the news of Lehman Bros. Holdings Inc.'s bankruptcy filing and Merrill Lynch & Co.'s abrupt sale to Bank of America Corp. Du's Christmas exports to the U.S. are down 40% this year, and now he figures Valentine's Day is lost too. "This recession is really global. Everything is connected."

As U.S. officials engineered a bailout of insurance giant American International Group Inc. in New York on Tuesday, Lehman workers in London carted boxes from their offices and worried about joining the unemployment rolls. Bankers and accountants in Asia were tallying their exposure to American assets -- South Korean financial firms had more than $700 million in investments each in securities linked to Merrill and Lehman.

And investors in Kuwait watched as oil futures kept falling amid expectations of depressed demand for many commodities, led by the United States. On Tuesday, crude was down more than $4.50 in New York, closing at $91.15 a barrel -- the lowest since February.

"We're talking about a global economy that has been driven by extreme excesses created by the housing market in the U.S.," said Kirby Daley, a strategist in Hong Kong for brokerage Newedge Group. "It was like a drug. But the drug is now gone, and there will be an adjustment."

One of the biggest adjustments will be the re-pricing of assets. When it filed for bankruptcy protection, Lehman said it had more than $639 billion in assets and debt of $613 billion. But if those assets are dumped in a liquidation, that could force other firms to mark down their assets, imperiling their capital base and financial stability.

In that case, how many institutions would fail? asked Andy Xie, an independent economist in Shanghai.

"The re-pricing means a big reduction in credit to U.S. households," said Xie, former chief Asia economist for Morgan Stanley. "The U.S. economy could go through what happened in Asia one decade ago: 4% to 5% contraction" in gross domestic product.

Most economists don't anticipate such a steep fall, but troubles will ripple across the world. The U.S. subprime crisis and credit crunch have contributed to slower growth in Europe, Japan and China. After Monday's 500-point drop in the Dow Jones industrial average, Asian stock markets were hit hard Tuesday. That was in part because trading was closed Monday for a holiday, but it also reflected concerns that Asia has a lot of exposure to the U.S. meltdown.

For instance, according to its bankruptcy filing, Lehman owed seven Japanese banks about $1.6 billion. The Japanese unit of Lehman Bros. requested bankruptcy protection at a Tokyo court. The Nikkei average lost 5% on Tuesday.

In Taiwan, "many banks and life insurance companies had investment in trust bonds of Lehman Bros., and they will be required to cut their investment in it and will suffer quite large losses," said Kevin Yang, president of Taiwan's Paradigm Asset Management Co. in Taipei.

He said it was hard to estimate the losses. "Each bank is still compiling statistics of their assets in Lehman," Yang said. "The atmosphere in Taiwan right now is very pessimistic."

Yang's main worry, though, is Taiwan's exports. Like much of Asia, Taiwan's economy has been propelled by growth in China and the seemingly insatiable appetite of American consumers, whose inflated home values had led them to refinance their properties, extract cash and keep up their spending.

In a surprise move Tuesday night, Taiwan's central bank lowered the reserve-requirement ratio for banks. The bank acted after two days of sharply falling equity prices and signs of weakening in the economy, which grew at a rate of 4.3% in the second quarter after expanding by more than 6% in each of the previous three quarters.

"Soon it will be Christmas. Taiwan's export situation is at stake," Yang said.

Declining growth in exports to the U.S. had already slowed China's economic expansion. On Tuesday, just hours after the Lehman and Merrill news was announced, the central government cut a key interest rate and eased bank restrictions to spur more lending to businesses.

Only about a week ago, Chinese analysts were relieved to hear about the U.S. government seizure of mortgage giants Fannie Mae and Freddie Mac. China holds about $376 billion of so-called agency debt, most of this in the form of securities issued by Fannie and Freddie.

Given China's large hoard of foreign reserves, about $1.8 trillion, the country is better positioned to withstand the U.S. financial crisis than any other major economy, says Donald Straszheim, a China specialist at Roth Capital Partners in Newport Beach. But he says American institutions should not count on sovereign-wealth funds from China or other Asian or Middle Eastern countries for further infusions of cash.

China Investment Corp., the year-old Beijing fund with a kitty of $200 billion, last year plowed $3 billion into Blackstone Group, but the value of that investment has fallen by about 50% since then.

"We're anxious about the turmoil in the U.S.," said a CIC official, declining to be identified. "We want to see it settled first. If you have no idea where the market is going, how can we invest?"

Analysts say Europe is almost certain to feel the sharpest blow from the financial woes originating in the U.S. because major European institutional players, banks and securities firms often engaged in similar high-risk deal-making.

The City, as London's financial district is known, has lost at least 9,000 jobs this year, and there are forecasts that it could lose 20,000 more, the Financial Times reported.

The Bank of England, along with central banks in Australia, the U.S., Japan and the European Union, injected tens of billions of dollars into the financial system over the last two days to calm nerves and keep banks from hoarding cash.

"It's a bit like a Greek tragedy," said Michael Huether, head of the Institute for German Economy in Cologne, Germany. "We have reached the turning point at which lots of things have already happened. Now the central banks are asked to put some cash into the system and then the system of banks has to cool down."

He said that the worst could be behind us, but then added: "The U.S. economy will probably not reach its forecast for 2009, which means that a very strong part of world economic growth will be missing. This isn't the world recession yet, but we are strongly moving toward stagnation."

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