World Economic News

Credit Derivatives of Major Banks Near Junk Levels

Debt derivatives of some major investment banks are now trading at near junk levels, according to the Financial Times March 15. On the one hand, this is the result of the collapsing subprime mortgage market; on the other hand, it could have disastrous consequences for the banks that are deep into these derivatives. Banks now are paying 44 basis points, up from 36 bp, for insuring debt. This implies that it costs $44,000 to insure $10 million. The FT makes the point that the only reason why banks like Goldman Sachs are showing such high profits is because they are taking "big proprietary risk—a tactic that may backfire if markets become more turbulent."

China Will Continue To Purchase Dollar Assets

According to the Shanghai Daily of March 16, Prime Minister Wen Jiabao said at his press conference in Beijing that China's new foreign-exchange management fund will not affect its purchase of dollar assets. "China's plan to diversify its foreign-exchange reverses is based on the country's forex security consideration," Wen said. "China does hold a majority of its forex reserves in US dollar-backed assets. China's purchase of dollar assets in mutually beneficial and the establishment of the forex investment firm won't affect the dollar assets."

Shanghai Securities News reported March 12 that the reserves management fund may issue yuan bonds worth US$200-US$250 billion in its first run, when it is set up within this year. The paper reported that the fund will buy 20%-25% of forex reserves from the central bank for investment. China's foreign reserves amount to US$1.07 trillion, of which nearly 70% is reportedly held in US dollar assets such as Treasury bills.

The Prime Minister's statements echoed those of Peoples Bank of China Vice Governor Wu Xiaoling, who spoke in Basel, Switzerland March 11. Wu was at the bimonthly meeting of the central bank governors of the Group of 10 nations. Wu was asked by Bloomberg whether China would continue to buy U.S. Treasuries, and she answered: "Yes."

On March 8, Wu had said that investment of the reserve fund in "any area is possible as long as it will ensure and increase the return of our investment." The size of the fund has not been announced, and reports of something between $200-300 billion have been circulating. Chinese foreign reserves total some $1.7 trillion.

Wu said in Basel that no time frame has yet been set for setting up the new agency: "It's still under preparation," and China is still studying what investments will be made, under the supervision of former Vice Finance Minister Lou Jiwei, who is now deputy secretary general of the State Council.

Britain's Own Subprime Market on Verge of Collapse

The subprime mortgage market in the UK, like that of the U.S., is on the verge of a meltdown, according to Ambrose Evans Pritchard, writing in the Daily Telegraph March 15. In fact, 58% of all home loans issued in Britain last year were "below-prime." One lender, Southern Pacific Mortgage, a UK subsidiary of Lehman Brothers, has been forced to draw down 11.5% of its reserve fund in recent days to cover losses on a 510-million-pound home-loan security. Another company, Rooftop Mortgages, owned by Bear Stearns, drew down 10.4% of its reserve funds for the third time in less than a year. In relative terms, Britain's sub-prime market is larger than that of the U.S.

Blackstone Dumps German Housing Unit

Blackstone, the U.S. private equity group, has sold the majority of its property holdings in Germany to a consortium of institutional investors including Round Hill Capital and Morley Fund Management, for 1.6 billion euros, the Financial Times reported March 12. The deal was arranged by Deutsche Bank Global Principal Finance. Blackstone will retain an undisclosed minority.

Globalization Cited for Problems on Shanghai Market

Due to globalization, there is a "close interrelation" of fluctuations on stock markets, although the recent fall on the Shanghai market did not represent any "macroeconomic" problem, Peoples Bank of China governor Zhou Xiaochuan said at a press conference March 12, during the National Peoples Congress session. "I personally believe this [the recent stock fluctuations in China] is not a problem on the macroeconomic level and should not lead to any major change of trends," Zhou said.

He would not comment when asked if the Shanghai stock market crash on Feb. 27 was responsible for the global stock turbulence, but Zhou did indicate that globalization is having a greater effect than the Chinese had thought. "China used to believe that its [stock] market is a comparatively small market, a market still under construction and in its early years, or a newly-established market gradually growing in a shifting economic system," he said. "However, due to the development of economic globalization, there has been a close interrelation of fluctuations on different stock markets. This tells us that we need to speed up the development of the Chinese market."

Zhou also said that China faces the problem of excessive liquidity in its financial system, but said this is a "global phenomenon." "The same problem is faced by the United States, which has a huge financial deficit, and those oil-producing countries with a rich capital reserve. All macro-economic regulatory bodies should pay high attention to this problem and adopt prudent and adequately stringent policies regarding the excessive liquidity."