Investors are increasingly afraid that the world’s leading governments, weighed down by debt and wounded by the last economic downturn, might not have the wherewithal to keep the emerging crisis in check.
A dangerous dynamic is taking hold in which the spreading debt troubles in Europe create new risks for the United States, while the chance of another U.S. recession makes the European fiscal crisis even worse. And these perils come as China and other rising economic powers are trying to slow their economies to combat inflation, leaving the world without any obvious tent pole to hold up global growth.
Virtually every asset that investors considered risky was in steep decline. U.S. stocks were down 4.8 percent, as measured by the Standard & Poor’s 500 index, and there were similar drops in foreign stocks, oil prices and the debt of financially troubled nations such as Spain and Italy. Prices soared on anything viewed as reliable, including bonds issued by the United States — still considered the best bet if the global economy melts down. The rate the U.S. government must pay to borrow money for a decade fell to 2.4 percent, down from 3.2 percent a month ago.
Investors have grown so fearful that they are essentially paying the U.S. government to take their money. Rates on some inflation-protected Treasury bonds have turned negative.
And in a sign of the volatile financial times, Bank of New York Mellon said it will charge depositors of large amounts for the privilege — a 0.13 percent fee on cash deposits of more than $50 million. Large institutions have been avoiding the short-term lending markets where they normally park cash, instead putting it in bank accounts — a practice banks wish to dissuade because they already have more deposits than they think they can profitably lend out.
The world’s central bankers took a series of actions to address the turmoil in the markets. The European Central Bank on Thursday resumed buying bonds of European nations that investors have been fleeing, helping prop up the value of Irish and Portuguese debt. The Bank of Japan intervened to try to keep the value of the yen from rising so high that it would undermine an already weak Japanese economy. And on Wednesday, the Swiss National Bank made a similar move, seeking to stem a steep rise in the value of the Swiss franc, considered a global refuge in turbulent times.
Stocks tumbled in Asian markets early Friday. Japan’s Nikkei 225 stock average dropped 3.4 percent in early trading, and markets in Hong Kong, Sydney and Taiwan suffered losses of 4 percent or more.
The gyrations on financial markets Thursday — and over the past two weeks — are ominously reminiscent of the 2008 financial crisis, with nerve-wracking moves in the full range of global investments.
“The United States looks like it’s flirting with recession and Europe looks like it’s hitting a full-scale debt crisis,” said Desmond Lachman, a resident fellow at the American Enterprise Institute. “That is a very dark global picture.”
Part of what’s driving the markets’ swoon is a fear that leading governments, for a variety of reasons, are not up to the task of addressing a continued deterioration in the economy.
In the United States, a bitter partisan debate over the federal debt ceiling that concluded just days ago reinforced concerns that Washington will be unable to address the nation’s long-term fiscal problems or any coming economic downturn.
“The whole debate over the debt ceiling sent four negative messages to the markets,” said Ethan Harris, chief North American economist for Bank of America-Merrill Lynch. “That we have a big debt problem, that we can’t fix it because we have a dysfunctional political system, that it’s okay to use the threat of default to achieve political ends, and that there's no safety net if the economy goes into recession because we’re not going to have any more fiscal stimulus.”
Some U.S. businesses reported in recent weeks that they had delayed hiring and investment decisions because of uncertainty about whether the government would leave the debt ceiling unchanged and thus default. Businesses’ reluctance to spend could be reflected in a key report on the job market, to be released Friday morning, which will be the latest evidence on whether the U.S. economy is sustaining its recovery or slipping into a second recession.
The Federal Reserve, meanwhile, is planning to hold its regularly scheduled policy meeting Tuesday, and its leaders will surely discuss what, if anything, they might try to do to bolster economic activity. But the Fed has already taken extraordinary measures in recent years to boost the economy, including near-zero interest rates for 21
2 years and counting, and is unlikely to find any silver bullets.
The Fed is likely to consider modest steps to ease monetary policy, such as promising to keep interest rates low for some set period in the future or delaying plans to reduce its multitrillion-dollar portfolio of bonds. The central bank could even decide at some point to expand its large-scale purchases of bonds — which have the effect of making cheaper money available to businesses and consumers — if the economy starts to slump.
Meanwhile, Congress has shown little appetite for fresh federal spending to help invigorate the economy.
In Europe, the challenge facing policymakers is even more daunting. Europe is dealing with a debt crisis that has engulfed some of its largest economies. So far, European nations, particularly Germany and France, have been willing to help bail out smaller countries such as Greece, Portugal and Ireland that have run into trouble. But if investors start to turn on Italy and Spain, charging them unaffordable rates to borrow money, it might be impossible to come up with a rescue package that is large enough.
Even some of the recent bright spots in the global economy are starting to dull. German economic growth, for example, appears to be slowing. Germany exports heavily to the European nations that are experiencing a debt crisis, and its banks are exposed to the debt of those countries.
Although European governments have developed programs to help restore investor confidence in several troubled nations, the latest initiative, which was announced July 21, will take time to implement. In any case, and the so-called European Financial Stability Fund probably would be too small to provide much of a backstop to Italy and Spain.
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