Northman's Fury

A story from the Telegraph about the refusal of the Saudis to cut their interest rates along with the US has a pretty alarming tone.

It's possible it may be justified.

"Saudi Arabia has $800bn (£400bn) in their future generation fund, and the entire region has $3,500bn under management. They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States," he said.

The Saudi central bank said today that it would take "appropriate measures" to halt huge capital inflows into the country, but analysts say this policy is unsustainable and will inevitably lead to the collapse of the dollar peg.

As a close ally of the US, Riyadh has so far tried to stick to the peg, but the link is now destabilising its own economy.

. . .

There is now a growing danger that global investors will start to shun the US bond markets. The latest US government data on foreign holdings released this week show a collapse in purchases of US bonds from $97bn to just $19bn in July, with outright net sales of US Treasuries.

The danger is that this could now accelerate as the yield gap between the United States and the rest of the world narrows rapidly, leaving America starved of foreign capital flows needed to cover its current account deficit - expected to reach $850bn this year, or 6.5pc of GDP.

. . .

The risk is that flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, the driving the property market into even deeper crisis.

Kuwait has already taken itself off the dollar peg, and if the Saudis do, it could very rapidly effect the price of oil, nominally priced in dollars, but dollars that were pegged to the Saudi currency. Change that rate, and oil gets more expensive for Americans, which hits their economy as well.

It will be interesting, if quite possibly painful for a lot of people, to see how this all works itself out.

The $8 billion buyout of audio-equipment maker Harman International Industries collapsed yesterday, the first major private-equity deal to unravel since the current credit turmoil began and a sobering sign for other big takeovers in the works.

. . .

It also left analysts and others wondering what effect the collapse would have on buyout king Henry Kravis and on Goldman Sachs, the world's largest investment bank. Any time a company reneges on an agreement, it puts its reputation at risk. It may find companies reluctant to do deals in the future, said several analysts who follow mergers and acquisitions.

The breakup could set a precedent for other private-equity firms to get out of acquisitions that have become less profitable because of the rising cost of financing big buyouts, the analysts said.

. . .

To get out of their deal, KKR and Goldman Sachs are citing a "material adverse change" clause, which is included in virtually every buyout agreement but is rarely invoked. It defines what changes would significantly alter the value of a company that would allow its buyers to back out.

. . .

Invoking this clause is often used as a negotiating tactic by buyers seeking a lower price. Since 2003, no deal has been canceled because of a material adverse change clause, according to the research firm FactSet MergerMetrics.

. . .

A legal battle over the Harman deal could effect other buyouts, such as the $25 billion acquisition of student loan giant Sallie Mae. Its private-equity buyer, J.C. Flowers, has talked about using the material change clause to force the company to consider a lower price. On Thursday, Sallie Mae released a statement saying it disagreed with J.C. Flowers on the matter.

None of this was unanticipated. The drop in the Fed rate was a stop-gap measure, but the money supply will remain tight. This still needs to work itself out. The losses in the sub-prime market have done major damage to mortgage lenders, but thanks to the financial instruments used to sell off those mortgages once they were made, nearly every bank and fund is feeling the pinch. The run on Northern Rock in Britain has led the banks there to be asked to proactively disclose their exposure. Confidence is down, and the perceived risk of lending is higher, which makes borrowing more expensive and deals based on borrowing less attractive.

And the real fun, as fester reminds us, is that this whole mess is really only just getting started.

Big news today for us Canucks is the fact that our dollar has reached parity with the US dollar for the first time since 1976. This is doubly cool for myself since on Monday, I'll be traveling to the States for the first time in several years and this will be the first time in my life that I don't have to worry about the exchange rate.

Of course, this isn't so much about the Canadian dollar's strength as it is about the US dollar's weakness, as the housing bubble is bursting, the badly regulated sub-prime credit fiasco is collapsing, uncontrolled spending and the massive budget deficits it created, along with the record trade deficits and inflationary fears are finally catching up to them, as well as a whole host of other reckless financial management practices.

Of course, that doesn't stop some people from thinking that now would be a great time to get rid of the loonie and tie ourselves to an American currency that's sinking faster than Brittany Spear's career.

In related, though less reported news, there's a new idea to help swimming performance by tying people to large sinking boulders.