Markets and Dollar Sink as Slowdown Worry Increases

By MICHAEL M. GRYNBAUM and PETER S. GOODMAN

Published: November 8, 2007

Stock markets plummeted and the dollar sank to a record low against the euro yesterday as investors worldwide grew skittish over rising oil prices and the prospect of a substantial economic slowdown in the United States.

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The Dow Jones industrial average fell 360 points and the broader stock market dropped nearly 3 percent, driven down by fear that the troubles in housing are likely to continue well into next year, contributing to further losses in credit markets and spreading pain to the rest of the economy. After a relatively strong summer, consumer spending is expected to tighten and business profits slow in the months ahead, analysts said.

"We are experiencing among our clients an awakening that the United States is in big trouble," said Erik Nielsen, chief Europe economist at Goldman Sachs.

The rise in oil prices, which briefly traded yesterday above $98 a barrel before settling at $96.37, now appear to be pushing up the cost of gasoline, heating oil and jet fuel as well. That only intensified concern that American consumers may no longer be able to sustain their spending on other goods and services, particularly the large numbers of gas-guzzling vehicles still being turned out by the Detroit automakers.

The most immediate trigger for the sell-off in the dollar, traders said, was a jarring signal that suggested China might shift some of its enormous hoard of foreign currency reserves — worth more than $1.4 trillion, primarily in dollars and dollar-denominated assets — into other currencies to get a better return on its money.

"We will favor stronger currencies over weaker ones, and will readjust accordingly," Cheng Siwei, vice chairman of the Standing Committee of the National People's Congress told a conference in Beijing on Wednesday. A Chinese central bank vice director, Xu Jian, said the dollar was "losing its status as the world currency," according to Bloomberg News.

Mr. Cheng later told reporters he was not saying China would buy more euros and dump dollars. But as markets opened across Europe, those words echoed as an invitation to sell the American currency.

The dollar fell to its lowest level against the Canadian dollar since 1950, the British pound since 1981, and the Swiss franc since 1995. The euro rose to a new record, $1.4729, before retreating.

While the reaction to the Chinese statements appeared to have been overblown, analysts said the larger forces assailing the dollar and the stock market were more deep-seated: uncertainty about the magnitude of the mortgage-related credit crisis, and the growing sense that, sooner or later, the unraveling of the American housing market must color the larger economy.

Recent weeks have featured a string of unpleasant reckonings for major Wall Street banks, with several slashing billions of dollars from balance sheets to account for losses in the mortgage market. Yet investors fret that there is more pain to come, with no way to know how much or where, given the spider's web of financial deals that propelled the housing boom.

"What it all comes down to beneath the surface is the perception of credit-related problems, and the perception that this is spreading in ways that cannot be anticipated," said Alan Ruskin, chief international strategist at RBS Greenwich Capital.

Though the losses from the subprime mortgage crisis are frequently estimated at $200 billion, only about half of this money has been accounted for, Mr. Ruskin said, with the markets forced to guess where the next batch of bad holdings will emerge.

"A lot of people do the math and there still seems to be a big hole there," he said.

Amid the carnage, though, there were still several signs that the economy remains healthy. Productivity — a measure of how much the country produces for each worker — expanded more than expected in the summer, the Labor Department said, suggesting that the economy still has the ability to grow without stoking too much inflation.

But stocks dropped from the opening bell. The Dow closed down 2.64 percent, at 13,300.02. The Standard & Poor's 500-stock index tumbled 44.65 points, or 2.9 percent, to 1,475.62. The Nasdaq composite index fell 76.42 points, or 2.7 percent, to 2,748.76.

The market was also reacting to news from General Motors that it would write down $38.6 billion in future tax benefits after a string of poor sales in North America and Germany, logging its biggest quarterly loss ever. The company's stock price dropped 6.1 percent, to $33.95 a share.

The uncertainty about the credit markets pushed financial stocks down nearly 5 percent.

"The mood is dreadful," said Brian Gendreau, an investment strategist at ING Investment Management. "People are saying, 'Well, is that all? If they were that wrong about so much, is it possible they're still wrong?'"

As the economic implications of the mortgage crisis filtered out, the recriminations went on. New York Attorney General Andrew M. Cuomo said he would subpoena records from Fannie Mae and Freddie Mac, the government-backed lenders, as he continued to look into whether banks had inflated the value of homes.

The euro's rise is being propelled by differing approaches to interest rates on opposite sides of the Atlantic. The Federal Reserve has been cutting rates to ease strains on the American economy. The European Central Bank is likely to hold rates steady when it meets today.

"There will be a natural flow of money toward countries where interest rates are going to be holding," said Stuart A. Schweitzer, managing director of global markets at JPMorgan Asset and Wealth Management.

For Americans, the ramifications of a weak dollar are varied. World travelers feel the pinch as the price of European hotels and restaurants soar in dollar terms. At home, the prices of imported goods like German-made cars and French wine inch up. Some fret that a further weakening in the dollar could sow inflation, as the impact of higher-priced imports — oil in particular — filters through the economy.

Indeed, some now see the dollar and the price of oil as intertwined: As the value of the currency falls, sellers of oil demand more dollars for the same barrel. And as oil prices climb, this impedes American growth, making the dollar less attractive.

Many see a weaker dollar as an unavoidable means of shrinking the United States trade deficit, which last year exceeded $800 billion. A weaker dollar helps make American goods cheaper on world markets.

Exports have been surging, giving companies in the United States a source of growing profits as sales soften at home.

"We're in an unsustainable situation in terms of accumulating enormous deficits," said Clyde Prestowitz, a former trade negotiator in the Reagan administration, and now president of the Economic Strategy Institute. "The only way out of that is through a weaker dollar."

Still, some say fears about a flight from the dollar are exaggerated; China and Japan depend on the purchasing power of Americans for their exports. They, along with the oil producers, hold so many dollars that they are loath to do anything to cause a precipitous fall.

But investors keep worrying about another surprise.

"You've basically got capital market jitters about the United States," said William R. Cline, a senior fellow at the Peterson Institute for International Economics in Washington.

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