US debt jolts world markets

Soaring foreclosure rates and a sharp slump in the US housing market have rattled traders from Frankfurt to Sydney.

from the August 17, 2007 edition

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Although it's still too early to know how large the total losses will be, Federal Reserve Chairman Ben Bernanke has said they could be as high as $100 billion. In Hong Kong, Dilip Parameswaran, head of Asia Credit Research at the French investment bank Calyon, recently told Bloomberg News the losses could reach $150 billion.

The globalization of America's debt co-incides with the enormous current-account deficit – that is the net trade and interest on debt outflow combined. "We as a country spend more than we produce," says Bryson. "We have been borrowing from the rest of the world."

Some of America's debt is actively sold overseas. For example, officers of Fannie Mae and Freddie Mac make periodic trips abroad to meet with potential investors.

"We actively seek to have a broad investor base in Europe and across Asia," says Jason Lobo, a spokesman for Fannie Mae in Washington. "It helps to insure liquidity in the market."

It's still not clear what the long-term impact of any losses will be on American mortgage rates. "That's the $64 trillion question," says Bryson.

"To the extent we borrow from the rest of the world, if foreigners are less willing to lend to the US, then, yes, long-term interest rates will go up," says Bryson, author of a recent report on the issue. "That's already happening to some extent."

But, he adds, "if foreigners were pulling back, the dollar would be getting creamed, and that is not happening."

In fact, over the past month or two the dollar is up about 2 percent compared with the euro, says David Wyss, chief economist at Standard & Poor's in New York. "That is partially because everyone is buying US Treasury securities," he says.

Mr. Wyss says there are some small signs that the crisis is abating. For example, the insurance that banks can buy on the open market to protect themselves against defaults has become somewhat less expensive. "That's good news, especially for corporate borrowers," he says.

At the same time, he says it's a good sign that banks have agreed to lend $11.5 billion in backup financing to Countrywide. "Basically, it's a sound company," he says. "But they did have to twist arms."

Many international investors probably will have minimal losses, says Bryson. The Chinese and Japanese are mainly invested in mortgages guaranteed by Fannie Mae and Freddie Mac. Instead, the largest potential losses may be in Britain, which owns about $44 billion in mortgage debt.

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