In this issue:

BIS Fears 'Systemic Impact' of Auto Industry Debt

EC Moots 1970s-Style Currency Controls

BIS: Chinese Banks Repatriating Overseas Holdings

Asians Watch Dollar Collapse with Great Concern

OPEC Discusses Trading Oil in Euros

German Exports Post Biggest Monthly Decline in 10 Years

Italian Minister Calls for Euro/Dollar Controls


From Volume 2, Issue Number 50 of Electronic Intelligence Weekly, Published Dec. 16, 2003

World Economic News

BIS Fears 'Systemic Impact' of Auto Industry Debt

The Bank for International Settlements highlights the "potential systemic impact" of auto industry debt, in its latest BIS Quarterly Review December 2003. The BIS features in detail the "unusually sharp movements" on foreign-exchange markets in recent months, in particular, the intensification of the pressure on the dollar. But at the same time, there emerged other "signs of potential problems," which seemed to be isolated events but easily could have far-reaching consequences: "The downgrading of several automobile companies highlighted vulnerabilities in this volatile sector of the corporate bond market. The arrest of a well-known Russian business leader [Mikhail Khodorkovsky] increased doubts among investors about the country's recent promotion to investment grade. And allegations of fraud in the mutual fund industry threatened to undermine the optimism of equity investors."

Concerning the automobile industry, the BIS Quarterly explains: "In the last few weeks of October, spreads widened dramatically in the automobile and related finance company sector, following Standard and Poor's unexpected downgrade of DaimlerChrysler, and placement of Ford and its affiliated finance company on credit watch. There was even concern in some quarters over the potential systemic impact on financial markets if Ford were to be downgraded to non-investment grade. Ford Motor Credit, with $130 billion of unsecured term debt, is among the largest finance companies globally, and its bonds account for a significant proportion of many investors' portfolios." Market fears were only overcome when S&P announced on Nov. 12 that a downgrade of Ford to junk was not imminent.

In a special box, the BIS features the crucial role of "large finance companies," such as Ford Motor Credit, for the U.S. financial sector. "Like commercial banks, they extend credit to both households and businesses. Unlike banks, however, they do not take deposits and are thus not subject to the regulation and supervision that apply to depository institutions. According to the most recent survey by the U.S. Federal Reserve, the U.S. finance company sector as a whole held $1 trillion in financial assets as of mid-2000, making it one-fifth the size of the U.S. commercial banking industry." Only 20 finance companies account for nearly 70% of all the sector's receivables. And, "having no access to deposits as a source of funds, the large finance companies rely heavily on the debt securities markets" (bond markets), and are therefore very vulnerable to credit rating downgrades.

EC Moots 1970s-Style Currency Controls

The European Commission is examining the legal basis for 1970s-style currency controls, revealed the Dec. 4 issue of London's Daily Telegraph. According to the Telegraph, a team working for European Economic and Monetary Affairs Commissioner Pedro Solbes concluded that Brussels could legally impose quantitative restrictions on capital flows, and that according to an unnamed EC official, a euro/dollar ratio of $1.35 would be a likely trigger for imposing such capital controls. The EC denounced the Telegraph story as absurd, while the European Central Bank declined to comment.

Nevertheless, there is some real background to the report. On Nov. 26, the EC released its report, "The EU Economy: 2003 Review." The final 45 pages of the 246-page document are devoted to "Determinants of International Capital Flows," and the chapter ends with a special annex on "Capital Movements in the Legal Framework of the Community." It highlights the paradigm-shift in international capital flows, marked by the breakdown of the Bretton Woods monetary order in the early 1970s. The annex notes: "The Bretton Woods system embodied the idea that capital flows were a threat to monetary and financial stability and to national policy autonomy. The experience of the 1930s was interpreted as a proving that international capital flows were destabilizing domestic economies. Thus capital flows were the subject of exchange controls and regulations during the 1950s and 1960s, keeping cross-border financial transactions at a minimum."

See next week's EIW for more background.

BIS: Chinese Banks Repatriating Overseas Holdings

Chinese banks have been repatriating their overseas holdings, according to the Bank for International Settlements (BIS) report in early December, the English-language Peoples Daily reported Dec. 11. According to the BIS, Chinese banks have been cutting their overseas holdings during eight of the past 10 quarters, through June 30. Funds deposited overseas by Chinese banks were down to $70.4 billion at the end of June, from $92.5 billion two years earlier, the BIS reported. They repatriated $9.1 billion in second-quarter 2003 alone.

The U.S. Treasury itself reported that China sold a net $2.8 billion of U.S. Treasuries and agency bonds during September.

In a "sign of the times," Peoples Daily on Nov. 23 ran an article headlined "China says it will not dump U.S. Treasuries to retaliate."

The China Business newspaper quoted an unnamed official with State Administration of Foreign Exchange, saying: "The nature of our agency is to manage the national forex assets well. To put it simply, we're looking at profits, and as long as we don't get instructions from the central bank, we won't sell U.S. Treasuries in a bid to retaliate."

This was published just two days after U.S. Ambassador Clark Randt was called into an emergency meeting by Chinese Vice Minister of Commerce Ma Xiuhong, after the U.S. announced restrictions on imports of Chinese textile products.

It was also noted in the article, that China has the second-largest U.S. dollar forex reserves in the world, after Japan's, at $383.9 billion, as of September. "A large part of this money has been spent buying U.S. Treasuries and other debt instruments, helping to keep American interest rates low. If China was suddenly to sell off Treasuries, it could potentially cause U.S. interest rates to rise, wreaking significant damage on the US economy," the article states.

Asians Watch Dollar Collapse with Great Concern

Commentaries in Malaysia and Singapore are among many across Asia, expressing concern about the collapsing dollar, the New Straits Times and the Straits Times reported Dec. 9. Michael Auyeung of Pacific Mutual Fund Bhd. in Malaysia notes that "many have cried wolf on the impending dangers," but the "markets have learned to turn a deaf ear." Today, he warns, "one should pay closer heed," noting that Warren Buffett has been investing in foreign currencies, especially in China. As to Malaysia, the new Prime Minister Abdullah Badawi, with a new mandate expected in the spring, will likely devalue the ringgit by 15% against the dollar, or more if the dollar falls .further.

Straits Times financial writer Eddie Lee reports that the EU talk of currency controls has Asia nervous, as it is still the Asians who are supporting the growing U.S. deficit, and "accepting more dollar assets in the process.... The talk of currency controls, however, shows the accumulation of such a large amount of dollar assets has the currency market on the edge."

OPEC Discusses Trading Oil in Euros

At the recent OPEC meeting in Vienna, there were calls, in particular from Saudi Arabia, to cut OPEC's oil production, due to the rapid decline of the dollar, according to Reuters and neftegas.ru Dec. 10. So far, OPEC has set a preferred target range for the average oil price between $22 and $28. But, as the value of the dollar is shrinking, this target is no longer enough. On Dec. 8, OPEC Secretary General Alvaro Silva, still in Vienna, gave an interview to the Venezuelan state news agency Venpres, saying: "The band is not set in stone, and if there is a decision to change its levels, they would be changed above all because of currency circumstances."

Other potential moves by OPEC to deal with the declining dollar are being discussed as well, Silva said. He noted: "There is talk of trading in euros. It's one of the alternatives ... either that or a basket of currencies. It is possible that the organization will discuss this and take a decision at a given time."

German Exports Post Biggest Monthly Decline in 10 Years

One day after German Economics Minister Clement stated that he still can't see any negative economic consequences of the rising euro, the German Federal Statistical Office presented surprisingly weak export figures. Seasonally adjusted exports were down by 6.6% in October compared to September, the biggest monthly drop in more than a decade. Compared to October 2002, exports were down only 1.2%. However, those exports to countries outside the European Union plunged by 8.5% in the same period.

One day earlier, the Federal Statistical Office published country-by-country figures for German foreign trade in the Jan.-Sept. 2003 period. In comparison to one year before, the pattern is the following: exports to the U.S. -9.1%; to Japan -7.5%; to other EU countries +2.9%; to Eastern Europe (including Russia) +7.0%; to Russia +7.4%; and to China +28.3%. Imports from the U.S. were down 0.7%, from Japan -4.0%, from other EU countries +2.5%, from Eastern Europe (including Russia) +6.8%, from Russia +1.3% and from China 16.7%. As German exports to China (13.6 billion euro) are rising much faster than imports from China (17.6 billion euro), the German trade deficit with China is shrinking and for the January-September 2003 period was just 4 billion euro.

Italian Minister Calls for Euro/Dollar Controls

In an interview with the French daily Le Figaro Dec. 10, Italian Deputy Finance Minister Mario Baldassarri warned that the high level of the euro compared to the U.S. dollar is now hurting the European economies. He then said: "Why do the two main economic regions of the world leave their currencies to fluctuate freely without attempting to defend a parity of between 0.9 and 1.1 against the dollar, a level that would adequately guarantee the stability of the international system?"

All rights reserved © 2003 EIRNS