Foreign Exchange Market

Europe may spark chaos on Lehman scale

PUBLISHED : Saturday, 21 January, 2012, 12:00am
UPDATED : Saturday, 21 January, 2012, 12:00am


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Europe's sovereign debt crisis has the potential to rock global financial markets on the scale of the collapse of Lehman Brothers in September 2008, says global investment firm Invesco.

'Europe presents a very serious position and the scale of the crisis could well be parallel with the Lehman crisis,' said John Greenwood, chief economist of Invesco, which has US$625.3 billion of assets under management as of December 31.

The so-called 'Lehman Moment' is widely regarded as the key threshold, at which the global financial crisis escalated sharply, leading to economic contraction and surging unemployment in Europe and the United States.

But Greenwood said the impact of Lehman's collapse was likely to remain greater, because markets had further to fall in 2008.

Best known in the city as the architect of the Hong Kong-US dollar peg, Greenwood also predicted that Greece and Portugal would leave the euro zone, and that they would default on their debts.

Despite official reassurances that the euro zone would survive, the two countries would also revert to their own currencies, which they would then devalue, Greenwood said.

He added that it was highly unlikely that euro-zone economies could weather prolonged deflation. Hong Kong, however, had done so in the aftermath of the Asian financial crisis in 1998, when it had to endure six years of deflation to stay competitive after the dollar-peg made Hong Kong dollars more expensive than its rapidly devaluing regional peers.

'Greece, Spain, Portugal and Italy have cost structures - labour costs in particular - which are 25 or 30 per cent higher relative to Germany's, compared with what they were a decade ago,' Greenwood said.

'If these countries still had independent currencies, they would have to devalue the currencies by 25 or 30 per cent to stay competitive again.

'And that is the measure of the internal deflation of southern Europe in order to restore their competitiveness,' he said.

Greenwood said Greece and Portugal might follow the example of Argentina, which abandoned its peg to the US dollar more than a decade ago, devaluing the peso and resuming economic growth after 18 painful months.

From a macroeconomic perspective, Asia would remain the major growth driver for global growth despite the economic malaise in the West, he said. As for Hong Kong, its currency peg should remain intact for the foreseeable future because it's an economic anchor for the city amid the global currency volatility, Greenwood said. But he also warned that Asian currencies might decline sharply if European banks had to withdraw funds from Asia to recapitalise.

Paul Chan, Invesco's chief investment officer for Asia ex-Japan, said the city's economy remained vulnerable to the downturns in global markets. He said he was underweight Hong Kong shares, adding that the market should mirror the correction in property prices.