Safety in US, Danger in Korea

October's answer to Black Monday continues to show shades of gray.

From an August peak, prices in the broad stock market were down about 15 percent on Oct. 27, the day the market took its dive By now, stocks are down about 10 percent - a far cry from the 23 percent drop of October 1987.

Standard & Poor's DRI calculated last month that this year's nearly $1 trillion in lost wealth would prompt American consumers to spend about $40 billion less. With the market's partial recovery, they will trim their spending by perhaps half of that.

That's not trivial. But DRI economist David Wyss still calls Gray Monday "pretty much a nonevent" for the economy.

For the United States, the economic crisis that has been rattling round the world is proving so far a fizzle.

The stock market drop has put any ambitions of Federal Reserve policymakers to raise interest rates on hold. They didn't act when they met last Wednesday.

If increases in the employment cost index - a measure of rising wages minus productivity - stay small, the Fed may hold off early in 1998 as well, Mr. Wyss says.

So Americans should continue to enjoy increasing prosperity: no rising interest on loans, continued good job opportunities, rising profits.

That's not the case in Southeast Asia. Wyss expects a dragged-out slowdown or modest recession in the Philippines, Malaysia, Indonesia, and Thailand.

The US sends about 5 percent of its exports to those nations. So sales will slow some, putting a damper on the American economy. Prior to the market nose dive, the consensus forecast among economists was for the output of goods and services to grow 2.5 percent next year. Now DRI, based in Lexington, Mass., has cut its forecast by 0.1 or 0.2 percentage point - to about 2.2 percent.

That's no big change.

Retailers expect a happy holiday shopping season. Wyss sees sales rising 5.5 percent from last year, making for the best Christmas in three or four years.

Some of those goods will come from the Asian nations where financial troubles have caused currencies to lose 30 percent or more of their value. That makes their goods cheaper in the US.

David Hale, chief economist at Zurich Kemper Investments in Chicago, says that when all the exchange-rate adjustments work their way through global markets, "it is not difficult to imagine the US trade deficit expanding to the $250 billion to $300 billion range by early 1999." That's up from $192 billion in 1996.

The huge trade deficit could provide an inflation safety valve in the US, he told a congressional subcommittee last Thursday. Americans would get more goods at lower prices. But the deficit poses a political problem.

"Many Americans perceive the trade deficit to be a source of job losses or slower wage growth, not an inflation brake," Mr. Hale argued.

That's one reason President Clinton failed to get congressional approval for fast-track authority to negotiate new free-trade agreements. Under the fast-track procedure, Congress must simply vote yes or no on any new trade deal. It cannot alter it.

Meanwhile, the Asian financial crisis could worsen.

Wyss, though, expects Hong Kong not to devalue its dollar. The territory's currency board has pledged to buy up Hong Kong dollars needed to maintain its currency peg to the US dollar.

Speculative selling of Hong Kong dollars has forced up interest rates in Hong Kong. That change, if it lasts, would slow its economy.

But Wyss says residents could just start using US dollars along with their Hong Kong dollars. That would ease economic pressures.

Hale sees two dangers ahead.

One is the possibility of a financial crisis in South Korea. The nation, he says, has financed huge capital investment in cyclical industries such as steel, semiconductors, and petrochemicals with massive amounts of debt: $1.1 trillion domestic and $160 billion from foreigners. About $30 billion of that foreign debt is due before year end.

Hale wonders if foreign banks will be reluctant to continue rolling over those short-term loans, given the sharp increase in corporate bankruptcies and concern about the safety of Korea's banking system. Also, Korea will hold a presidential election in a few weeks that could cause "an unprecedented shift in political power."

If there is a debt crisis, Hale says, financial markets will expect the US to play a decisive role in organizing a rescue package. Its size: $50 billion to $100 billion. That would likely be controversial in the US. But since Korea is an important military ally, Hale figures the White House could win congressional approval.

The other risk is that China will devalue its currency in the next few months. As China has more than $120 billion in foreign-exchange reserves, the US Treasury has suggested it not do so. But, Hale notes, China wants to restrain unemployment with more exports as it privatizes its large state enterprises. Devaluation would stimulate those exports.

There could be more financial excitement ahead.