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Markets Weigh the S&P Fallout

Author: Christopher Alessi
August 8, 2011

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World finance ministers and central-bank governors from the Group of Seven (G7) leading economies pledged Sunday to take "coordinated action" (WSJ) to ensure liquidity and support financial markets, following mounting global economic fears over last week's U.S. debt downgrade by ratings agency Standard & Poor's and a rising risk of eurozone sovereign-debt contagion to Italy and Spain. After a sharp drop in Asian stock markets August 8, G20 nations signaled the group would take "all necessary initiatives" (AFP) to ensure global financial stability.

The European Central Bank (ECB) intervened (FT) in bond markets, buying up Italian and Spanish debt and pushing yields down sixty-five basis points, as Spanish and Italian stock markets rebounded. However, European stocks resumed a sell-off (Bloomberg) as investors quickly turned back their attention to the economic ramifications of the U.S. downgrade. Stocks tumbled (Reuters) on Wall Street in early trading August 8 as investors sold off risky assets.

A number of experts are sounding warnings about a new downturn in the global financial system. The U.S. downgrade and the expanding eurozone debt crisis make a second global economic recession all but inevitable, argues Roubini Global Economics Chairman Nouriel Roubini in a Financial Times op-ed. Roubini also told Foreign Policy that he sees the current situation as "more scary" than the financial crisis of a few years ago, because governments are weaker. "I think the most important difference compared to the past is that we are running out of policy bullets," Roubini said. While Conrad DeQuadros, a senior economist at RDQ Economics, told the New York Times, "It would be disastrous if we entered into a recession at this stage, given that we haven't yet made up for the last recession."

Ian Bremmer, president of the consulting firm Eurasia Group, agrees telling Foreign Policy that the "ability to engage in massive policy redress is not there," but he believes there will not be a full-blown second global recession. The United States, he said, will likely implement a third round of quantitative easing to stave off another crisis. Investor Warren Buffet (Bloomberg), who forcefully criticized Standard and Poor's for the U.S. downgrade, also said the global economy will avoid a double-dip recession.

Still, even after the ECB's own bond-market intervention, and the G7 and G20 calls for financial coordination, some market watchers are urging governments and central banks to do more to coordinate fiscal and monetary policy to avoid a global recession. "There's been a move away from G20 coordination to piecemeal self interest," Philip Poole, global head of macro investment strategy at HSBC Global Asset, told Reuters. "Global coordination was helpful during the crisis, and that is something that has broken down."

Analysts at the Royal Bank of Scotland (RBS) were satisfied with the ECB's move to buy up Spanish and Italian bonds, saying it would at least buy "a significant amount of time" (DerSpiegel) for the eurozone until the European Financial Stability Fund (EFSF) is authorized to intervene in secondary markets this fall.

But as evidenced by volatile U.S. markets (WSJ), global investors remained more focused on the U.S. downgrade and its implications for the global economy than that of the eurozone. "The U.S. downgrade will force a reassessment of the entire concept of risk in the global economy," wrote TIME's Michael Schuman. "If the U.S. isn't as safe as it was before, that will probably cause a domino effect throughout the world."

Additional Analysis:

Panicked global markets are demanding a sense of direction from political leaders, says this Financial Times editorial.

As markets continue their rollercoaster run and speculation mounts over a global economic crisis, the Daily Telegraph provides reactions from analysts and commentators across the world.

The Obama administration's attempt to discredit S&P only makes the United States look worse -- like the Europeans who also want to blame the raters for noticing the obvious, says this Wall Street Journal editorial.

It is possible for a bad witness suffering a severe conflict of interest to make the occasional pertinent observation, says this Guardian editorial of the S&P decision to downgrade the United States.

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