World markets nose-dive

WASHINGTON – Stock markets around the world plummeted Monday as a financial crisis that began in the market for U.S. home mortgages spread to almost all corners of the globe.

U.S. markets were closed for Martin Luther King Jr. Day, but all the world’s other major economies experienced sell-offs. Stock prices fell more than 7 percent in Germany and India, 5.1 percent in China, 5.5 percent in Britain, and 3.9 percent in Japan. Many nations experienced their worst market declines since Sept. 11, 2001, and the only country whose stock market rose was Sri Lanka.

Japanese stocks were down an additional 4.4 percent and Chinese stocks were off more than 6 percent in morning trading today. “Where the bottom is now is anyone’s guess,” said Wesley Fogel, a market strategist for HSBC.

Officials at the Treasury Department, in the Federal Reserve system and at major stock exchanges worked the phones Monday – calling one another and their foreign counterparts. They were preparing for what looks likely to be a volatile week on Wall Street: Futures markets Monday forecast a 4.5 percent drop in the Standard & Poor’s 500-stock index when exchanges open this morning.

A Treasury spokeswoman said only that the department always monitors and communicates with the markets. A spokeswoman for the Fed declined to comment.

Markets fell as fears spread that massive losses on loans made to U.S. home buyers will cascade through the world financial system. Some of the firms that play important, but usually invisible, roles in the international financial architecture are turning out to be exposed to the downturn in the housing market in a way that threatens their ability to function.

Companies that insure bond investors against defaults are having to make such massive payouts that their credit ratings have been lowered. One, ACA Capital, owes $60 billion that it can’t pay and has been taken over by the Maryland insurance regulator.

The problems among bond insurers have meant a wide variety of financial institutions cannot count on receiving payments due them, causing further losses.

Other news Monday shows just how widely the damage has spread. A Chinese newspaper reported the Bank of China is exposed to subprime U.S. mortgage loans to a degree it had not previously disclosed and may have to write down the value of its $8 billion in such investments. Several large European banks have taken similar hits.

Those losses could have importance beyond the share prices. Banks and other financial institutions play an important role in an economic downturn: lending to businesses and consumers so they can help the economy get back on track. The multibillion-dollar losses could make them unable to play that role.

Moreover, foreign investors have been plowing capital into American banks to help them continue lending, which made Monday’s steep losses particularly worrisome, some analysts said.

“Those infusions of capital have been crucial to maintaining performance to date,” said Joseph Mason, a finance professor at Drexel University in Philadelphia. “If foreign investors should significantly retreat from U.S. markets, that leaves us to our own recovery. In that case, the current credit crunch will continue to bite and we maintain a very high risk of recession.”

Many economists have argued that continued growth in the rest of the world – especially in fast-growing markets like China – will help ease the pain of the slowdown in U.S. growth.

With their houses less valuable, American consumers may spend less, goes this logic, while Asian and European consumers will do just fine, preventing a global economic slump. Monday, analysts worried that this theory won’t hold up.

“People are scared, and they are reacting with behaviors that are based on psychology,” said David Kotok, chief investment officer of Cumberland Advisors. “Some of that can be seen in the stock market, but they are also changing consumer behaviors.”

Many analysts argued that stock markets in developing countries have appeared to be overvalued for some time, which would suggest that some of the market declines were necessary. For example, even after Monday’s 5.1 percent drop, the Shanghai composite index in China has risen more than fivefold in the past three years, sparking worries of a bubble.

“Many of the markets, especially the European and Asian markets, have been priced for eternal growth,” said Axel Merk, portfolio manager of the Merk Hard Currency Fund.

European officials stressed the underlying strength of their economies, arguing they can continue to thrive despite weakness in the American economy.

“It seems that the markets are considering the possibility of a more pronounced slowdown, even a recession in the U.S.,” EU Monetary Affairs Commissioner Joaquin Almunia said Monday. “I hope they will pay attention also to the real information … because, at least in Europe, the economic fundamentals of our economies are sound.”

Most world markets were digesting for the first time the Bush administration’s proposal to try to stimulate the U.S. economy with tax benefits. It was announced Friday, after Asian and European markets had already closed.

Traders around the world seemed to have little faith that the plan will arrest the slowdown in the U.S. economy, even if some version of it is passed by Congress.

“Foreign markets are doubtful about the ability of Congress to move quickly, and foreign markets have watched the Federal Reserve move slowly in August, September, October and November,” Kotok said. “So the concern from abroad is that the U.S. has been too slow and done too little and is now playing catch-up.”

White House spokesman Tony Fratto said Monday that, while he wouldn’t comment on daily market moves, “we’re confident that the global economy will continue to grow, and that the U.S. economy will return to stronger growth with the economic policies the president called for.”

Congressional leaders Monday acknowledged how serious the European and Asian sell-offs were and said they may have to rethink the size of the stimulus and its content. Democrats still favor tilting the package toward middle-class and poorer Americans, who would be the quickest to spend any tax refunds or government checks. But Republicans have been pushing for more incentives for investors and business, a possible reaction to the stock-market jitters.

“I don’t want to use the word ‘panicky,’ but you can’t look at the size of these (losses) and not be extremely nervous,” said Rep. Rahm Emanuel, D-Ill., a former investment banker. Emanuel cautioned that policymakers should not be chasing the markets, trying to reverse losses already in the books.

The market declines across the globe, if nothing else, show how interconnected the world economy has become. “We’re in a global economy,” said Randy Bateman, chief investment officer of Huntington Asset Advisors. “This is just the result of a perfect storm of problems that have surfaced here in the last two weeks that have manifested in the stock markets – all of them.”