Drooping global markets, a drumbeat of bank implosions, new lows for the dollar—when will it all end? Not necessarily anytime soon, analysts are saying. The weaknesses clouding the short-term economic outlook feed one another. Surging oil prices raise the price of doing business and suck cash out of consumers’ wallets. A tanking dollar doubles the stakes both for U.S. buyers and for countries like China that are sitting on greenback reserves. A combination of stingy credit and declining markets—in spite of interest rate cuts—means businesses and hedge funds can’t borrow to pay off debts. In some cases, firms have to sell off other assets. This spreads losses globally, and across all sectors. The profits of hedge funds matter little to the average person. But if funds are forced to sell assets, the process could drag down markets worldwide.
The Financial Times says the risk of “fire sales” is spiking. On November 6, agencies downgraded their ratings for a wide variety of debt packages. The article says Standard & Poor’s, an independent credit rating agency, has now received default notices for as much as $5 billion worth of debt. The ratings downgrade could now prompt further defaults. Analysts fear these imploding investments could then force banks to sell off massive amounts of debt and other securities, accelerating the evaporation of global liquidity and wreaking havoc on markets worldwide.
It remains unclear whether this vicious cycle can be forestalled. U.S. Treasury Chairman Hank Paulson attempted to create a safety net in late October when he proposed a $75 billion “superfund” (MarketWatch). The fund, Paulson said, would pool money among banks in an attempt to guarantee liquidity in times of crisis. Even the fund’s proponents termed it a modest first step, a way to “buy time” (IHT). Now analysts say Paulson’s plan may be failing to materialize. As yet, not a single bank has made a firm commitment to the fund, though banks may be making progress on determining what assets will be eligible in behind-the-scenes negotiations.
The quick implementation of this kind of safety net could help stave off the risk of a major global economic breakdown, which analysts now say isn’t out of the question. High on the list of concerns is the declining dollar (Economist). A falling dollar scares everybody—U.S. consumers feel the pinch, while exporters abroad must cope with the increasing competitiveness of U.S. products. French President Nicolas Sarkozy told the U.S. Congress on a recent trip to Washington that they must do something about the falling dollar or face an “economic war” (Reuters). The most recent market jitters were sparked when Chinese officials signaled they could no longer maintain the country’s massive dollar reserves and would be forced to diversify (Bloomberg)—though China has in fact been selling dollars for some time.
Meanwhile, oil prices continue to climb. The New York Times reports that oil’s rise and the dollar’s tailspin are interrelated—oil exporters are apt to demand more dollars for each barrel of oil as the value of the dollar dips. The combination of these factors now raises a new concern for investors: inflation (WSJ). The U.S. Federal Reserve only added to these worries through recent cuts in its benchmark interest rate. The Financial Times says the Fed, having already dropped rates three-quarters of a percentage point, might find it hard to make further cuts without seriously crippling the dollar or spiking inflation.