Financial thoughts

House prices in 20 U.S. cities declined at the fastest pace on record as foreclosures climbed before the credit crisis deepened this month.

The S&P/Case-Shiller home-price index dropped 16.6 percent in August from a year earlier, as forecast, after a 16.3 percent decline in July. The gauge has fallen every month since January 2007, and year-over-year records began in 2001.

The decrease in property values, which helped boost sales last month to the highest level of the year, will probably intensify in coming months as the latest tightening of credit markets threatens to dry up mortgage financing. Prolonged price declines may push even more houses into foreclosure, weakening consumer spending and the economy.

“There's still quite a bit further for prices to go down, even though the volume has probably bottomed out,'' William Cheney, chief economist at John Hancock Financial Services Inc. in Boston, said in a Bloomberg Television interview. “Prices will probably find a bottom sometime next year.''

Stocks rallied after yesterday's declines drove the Standard & Poor's 500 Index to the lowest level since March 2003. The S&P 500 rose 22.2, or 2.6 percent, to 871.2 as of 9:32 a.m. in New York. Treasuries fell, pushing yields higher. The benchmark 10- year note yielded 3.77 percent, up 9 basis points from yesterday.

Home prices decreased 1 percent in August from the prior month after declining 0.9 percent in July, the report showed. The figures aren't adjusted for seasonal effects so economists prefer to focus on year-over-year changes instead of month-to-month.

As Forecast

The economists forecast for the 20-city index was based on the median of 27 estimates in a Bloomberg News survey. Projections ranged from declines of 15.9 percent to 17.1 percent.

For a fifth consecutive month, all areas showed a decrease in prices in August compared with a year earlier, led by 31 percent declines in Phoenix and Las Vegas.

Just two markets, Cleveland and Boston, showed an increase in property values in August from the prior month, down from six cities in July.

“The downturn in residential real estate prices continued, with very few bright spots in the data,'' David Blitzer, chairman of the index committee at S&P, said in a statement one hour loans.

Robert Shiller, chief economist at MacroMarkets LLC and a professor at Yale University, and Karl Case, an economics professor at Wellesley College, created the home-price index based on research from the 1980s.

Spurring Demand

Reports this month showed falling prices had spurred demand. New and previously owned houses sold at a combined 5.644 million annual pace in September, the most since November, according to Bloomberg News calculations based on figures from the Commerce Department and National Association of Realtors.

Sales of distressed properties accounted for 35 percent to 40 percent of last month's total, the agents' group also said.

The median price of an existing home fell 9 percent in September from a year earlier, according to the Realtors. The median price of new houses fell 9.1 percent during the same period, Commerce reported yesterday.

Foreclosure filings increased 71 percent in the third quarter from a year earlier, according to Irvine, California- based RealtyTrac, a seller of foreclosure data. A total of 765,558 U.S. properties got a default notice, were warned of a pending auction or were foreclosed on in the quarter, the most since records began in January 2005, RealtyTrac said.

Declining home construction has subtracted from growth since the first quarter of 2006. The downturn is likely to remain a drag on the economy for the next few quarters, economists said.

Homebuilder Ryland Group Inc. reported a wider third-quarter loss last week and said foreclosed properties are driving down the value of homes made by the Calabasas, California-based company.

Chief Executive Officer Chad Dreier said in an Oct. 23 conference call that falling home prices in many parts of the country are preventing potential buyers from selling their houses and purchasing a Ryland home.

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Japan outlined steps to ease strains on its banks, as Tokyo stocks hit a 26-year low on fears that lenders will need billions of dollars to boost capital, and as the yen rose despite a G7 warning of excess volatility.

Investors dumped Mitsubishi UFJ Financial Group (8306.T: Quote, Profile, Research, Stock Buzz) and other major Japanese banks, on concern that their heavy exposure to domestic equities could trigger the kind of massive losses that tore through Wall Street but have so far skirted Japan.

Prime Minister Taro Aso said the government would expand a scheme that gives banks access to public funds and also strengthen regulation on the short-selling of shares.

Aso has also said a state body should be used to buy shares from banks, and that limits on bank recapitalizations should be raised, Economics Minister Kaoru Yosano told reporters.

The prime minister also called for extending tax relief on income from stocks and dividends, Yosano said.

On Sunday, Yosano said that a newly announced bank bailout scheme should be increased several-fold to nearly $110 billon.

The measures underscore the difficulties now facing lenders in the world’s No.2 economy, which at first appeared to have avoided the credit crisis, allowing them to invest in overseas rivals.

“The government will have to do something for banks,” said Koichi Ogawa, chief portfolio manager at Daiwa SB Investments no teletrack payday loans.

“The problem here is that the stock market has fallen, it has nothing to do with derivatives or anything like that. As stocks have dropped, banks are faced with rising paper losses.”

Tokyo’s benchmark Nikkei share average .N225 briefly dropped as low as 7,141 on Monday, its lowest since 1982.

The benchmark has lost about half of its value so far this year — falling by nearly a third this month alone — as a rise in the yen and a weakening outlook for the economy has curbed appetite for Japanese stocks.

The losses, which drove more risk-averse investors away from currencies such as Australian dollar and back into the yen, overshadowed Group of Seven warnings on Monday that the yen’s sharp swings posed a threat to financial and economic stability.

TRADITIONAL JAPAN

Although Japanese banks have had little exposure to the risky credit instruments that crippled Wall Street, investors now fear that lenders’ extensive shareholdings and rising bad-loan costs will unravel profits this year.

Traditionally, Japanese lenders hold large stakes in their corporate clients as a means to cement business ties. The value of those stocks totaled more than $250 billion at the end of March, data from the Japan Bankers Association shows. 

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Europe's manufacturing and service industries contracted at a record pace in October as the financial crisis damped exports and consumer spending.

Royal Bank of Scotland Group Plc's composite index dropped to 44.6, the lowest since the survey began in 1998, from 46.9 in September, Reuters reported. Economists forecast a decline to 45.4, according to the median of 17 estimates in a Bloomberg survey. The index is based on a survey of purchasing managers by Markit Economics in London and a reading below 50 indicates contraction.

Europe's economy may be tipped into a recession as the global credit crunch forces governments to bail out banks and stock markets plunge. Daimler AG, the world's second-biggest maker of luxury cars, yesterday slashed its 2008 earnings forecast by 1 billion euros ($1.3 billion) and Fiat SpA, Italy's biggest carmaker, said it will cut production in the fourth quarter.

“We're going to see a contraction of the European economy in the fourth quarter,'' said Nick Kounis, chief European economist at Fortis Bank in Amsterdam. The European Central Bank “is going to cut interest rates as early as the next governing council meeting'' on Nov. 6, he said.

The euro dropped more than a cent after the PMI figures were published to $1.2530, a two-year low. European stocks fell, extending the Dow Jones Stoxx 600's decline to 46 percent this year.

Rate Cuts Expected

The International Monetary Fund on Oct. 7 predicted growth in the 15 countries sharing the euro would slow to 0.2 percent next year, the weakest since the single currency began trading in 1999, from 1.3 percent this year.

The ECB joined a globally coordinated rate cut this month in an effort to boost confidence, reducing its benchmark by half a point to 3 free credit report and score.75 percent. Investors expect the Frankfurt-based bank to lower the rate by a further half-point to 3.25 percent next month, Eonia forward contracts show.

“The euro zone is experiencing a double-whammy,'' said Andreas Scheuerle, an economist at Dekabank in Frankfurt. “The escalation of the financial crisis in the past few weeks has damped demand in the euro zone as well as from its trading partners.''

Markit's manufacturing index dropped to 41.3 this month from 45 in September, while the services index fell to 46.9 from 48.4. At the same time, inflation pressures continued to ease from a July peak, today's report showed.

Risks Materialize

“There has been a materialization of the downside risks to growth and we have to take that into consideration in all respects, and particularly as regards the influence that it has on the upside risks for price stability,'' ECB President Jean-Claude Trichet said in New York on Oct. 14. In an interview on French radio on Oct. 19, he described the 15-nation euro area as being in a “very, very important growth slowdown.''

The euro's decline and lower oil prices may help to steady the economy by making exports more competitive and reducing household energy bills.

“Commodity and oil prices and the euro's rate against the dollar will help confidence to recover,'' said Kenneth Broux, and economist at Lloyds TSB in London. Oil prices have halved in the past three months, helping euro-area inflation slow to 3.6 percent in September.

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U.K. retail sales fell in September as rising unemployment and the specter of a recession prompted British shoppers to curb spending.

Sales declined 0.4 percent on the month after rising 1.1 percent in August, the Office for National Statistics said today in London. Economists forecast a 0.7 percent decline, according to the median of 33 estimates in a Bloomberg News survey. On the year, sales increased 1.8 percent, the least since February 2006.

DSG International Plc, the U.K.'s largest electronics retailer, said today that a sales drop persisted in the past two months. Bank of England Governor Mervyn King told business leaders this week that Britain probably faces a recession after the nation's worst banking crisis since World War I.

“The U.K. consumer will hold back,'' said Amit Kara, an economist at UBS AG in London, who formerly worked at the central bank. “I see a negative growth rate for next year and unemployment going up. Things are looking pretty bad.''

The pound rose as much as 0.2 percent against the dollar after the report showed a smaller than forecast sales drop. It traded at $1.6307 as of 10 a.m. in London. The U.K. currency reached a five-year low of $1.6147 yesterday after King said that a recession “seems likely.''

The central bank cut the benchmark interest rate to 4.5 percent in a surprise joint global action on Oct. 8. All nine policy makers voted in favor, saying that there was evidence consumer spending was weakening and that the economy “deteriorated substantially,'' minutes of the decision showed.

Electrical Items

Sales at non-food stores led the decline on the month, falling 1.1 percent, the statistics office said low fee cash advance. Household goods shops reported a 2 percent drop, led by electrical items, while textile, clothing and footwear sales slipped 2.3 percent.

DSG said that revenue slid 7 percent at stores open at least a year in the 24 weeks ended Oct. 18. The company plans to cut capital spending as consumers rein in spending on computers, washing machines and appliances.

Food sales rose 0.3 percent on the month. They fell 0.4 percent from a year earlier, and declined 0.1 percent in the third quarter, the first drop since records began in 1986, the statistics office said.

London's workforce will shrink this year for the first time since 2004 and the slide will extend through 2009 as the global financial crisis hurts banks and builders, according to the city's economic forecast. Unemployment rose to the highest level in almost two years in September, and house prices fell at the fastest annual rate in at least six years this month, Rightmove Plc said Oct. 20.

Consumer Squeeze

“The combination of a squeeze on real take-home pay and a decline in the availability of credit poses the risk of a sharp and prolonged slowdown in domestic demand,'' King said in his speech on Oct. 21 in Leeds.

Inflation reached 5.2 percent in September, the fastest pace in at least a decade. King said that the risks to consumer prices shifted “decisively'' to the downside in the past month. The annual price deflator, a measure of cost changes in shops, showed a 1 percent annual increase in September, the statistics office said today.

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Threats of a “global catastrophe'' have declined in recent weeks as policy makers around the world work to restore liquidity and confidence in the financial system, Australian central bank Governor Glenn Stevens said.

“At moments like this, it's hazardous to make predictions,'' Stevens said today in a speech in Sydney. “However, it seems to me that the key elements of dealing with the root issues in the crisis are starting to come into place.''

Governments and central banks in the world's biggest economies have cut borrowing costs and boosted liquidity and capital for banks to ease a credit freeze that triggered the biggest swings on financial markets since the 1987 stock-market crash. The turmoil prompted Stevens to unexpectedly slash Australia's benchmark rate this month by 1 percentage point to 6 percent, the biggest reduction since a recession in 1992.

“Policy makers in the major countries do `get it','' said Stevens in the speech to members of the Trans-Tasman Business Circle. Plans to restore stability “are not precisely uniform across countries — that is never achievable, anyway — but we can, I think, see the shape of a broad common outline.

“As a result, the likelihood of a global catastrophe has declined over the past couple of weeks.''

The benchmark S&P/ASX 200 Index of stocks, mirroring gains in Asia, climbed 2.7 percent to 4,254.3 at 1:15 p.m. in Sydney, adding to a 4.3 percent advance yesterday that has pared its drop this year to 33 percent.

Currency, Bonds

Australia's dollar traded at 69.91 U.S. cents from 69.81 cents before Stevens' comments were released. The two-year government bond yield rose 7 basis points, or 0.07 percentage point, to 4.29 percent.

Stevens said his decision to cut borrowing costs on Oct payday loan cash advance loan. 7 was taken even though inflation in Australia is “likely to remain high in the period immediately ahead.''

“Looking forward to next year, forces seem now to be building that will start to dampen pressures on prices, even though we won't have evidence for that for a good six months,'' he said.

Members of the bank's board said in minutes of their October meeting, published today, that increased risks to Australia's economy provided a “strong economic case'' for the larger-than-expected rate reduction.

Inflation Report

Annual inflation probably accelerated in the third quarter to 4.8 percent from 4.5 percent in the previous three months, according to the median estimate of 16 economists surveyed by Bloomberg News. The prices report will be released tomorrow at 11:30 a.m. in Sydney.

Policy makers, who aim to keep price gains between 2 percent and 3 percent on average, seek “to respond to the medium-term outlook for prices, not just the current data,'' Stevens said today.

The Australian dollar's 21 percent decline against the U.S. currency this year “also amounts to a significant change for the trade-exposed sectors of the economy, though at the cost of some temporarily higher price rises,'' the Governor said.

“These changes will act to lessen the extent of the likely slowdown in Australia's economy, even as global forces work the other way.''

China, Australia's largest trading partner, will “probably grow pretty strongly, on average, over many years,'' thought it is slowing now, Stevens added.

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Wall Street rallied Thursday, finding momentum toward the end of a volatile session, as the lowest oil prices in more than a year gave investors a reason to scoop up shares battered in the recent market selloff.

The Dow Jones industrial average (INDU) surged 401 points, after having fallen as much as 380 points in the late morning.

The Standard & Poor’s 500 (SPX) index rose 4.3% and the Nasdaq composite (COMP) gained 5.5%. The gauges were on both sides of the breakeven point throughout the morning.

After the close, Google (GOOG, Fortune 500) reported higher-than-expected third-quarter earnings on revenue that was in line with forecasts. The search engine’s shares rose 12% in after-hours trading. (Full story)

Also after the close, AIG (AIG, Fortune 500) said it has tapped another $12 billion in emergency government funding, bringing its total to $82.9 billion as it struggles to stay afloat. (Full story)

Also after the close, Advanced Micro Devices (AMD, Fortune 500) reported a narrower quarterly loss, while IBM (IBM, Fortune 500) reported higher profit that beat estimates, after pre-announcing the results last week.

Friday brings reports on housing starts and building permits in September as well as the University of Michigan’s consumer sentiment index for early October. Additionally, President Bush is due to speak briefly before the market opens.

Stocks seesawed Thursday in another very volatile session on Wall Street in which traders eyed more hints that a recession is underway but also opted to take advantage of the recent bloodletting in equities.

Stocks fell in the morning on a pair of weak manufacturing reports and Merrill Lynch and Citigroup’s losses. But the selling eased up after the major gauges dipped close to last week’s multi-year lows - which some market pros think could represent a bear market bottom.

In the last hour of trade, stocks rallied sharply, reversing the recent trend of selling off near the close. The stock market also seemed to benefit from a slump in commodities, with investors ignoring the negative economic implications of sliding oil prices.

The dollar strengthened versus other major currencies and the credit market showed some signs of loosening, as several key lending rates declined.

While investors have welcomed many of the steps the government and world banks have taken to get money flowing again, the tone of the market has remained pretty negative. That’s partly because a lot of the programs won’t kick in until several months from now.

Investor fear is at an all-time high, with the CBOE Volatility (VIX) index, or the VIX, rising to a record 81.17 Thursday afternoon before pulling back a bit.

"To a certain extent, we’re in the middle of a hurricane," said Gary Flam, portfolio manager, Bel Air Investment Advisors. "It will pass eventually and we will get through it, but there’s been a lot of damage."

Year-to-date, the Dow, S&P and Nasdaq are all down between at least 30%.

Recession talk sent the Dow tumbling 733 points Wednesday, its second worst session ever on a point basis. The slide of 7.9% was the Dow’s 9th worst ever. Declines for the S&P 500 and the Nasdaq were comparable. The decline Wednesday wiped out $1.1 trillion in market value on the Dow Jones Wilshire 5000, the broadest measure of the stock market.

Oil: Oil prices continued to slide after the government’s weekly inventory report showed a bigger-than-expected gain in crude and gas supplies.

U.S. light crude oil for November delivery fell $4.65 to settle at $69.85 a barrel on the New York Mercantile Exchange. The contract fell as low as $68.57, the lowest level since August 2007.

Bets that demand is slowing have sent oil prices lower since crude hit an all-time high of $147.27 a barrel on July 11. So far, instead of providing relief to investors, the decline has been seen as another indication of the global economic slowdown.

But investors seemed to ignore those implications in the late-session rally Thursday, also setting aside the morning’s weak economic reports.

Economy: Production at U.S. factories fell by the largest amount in nearly 34 years, the Federal Reserve said Thursday. The decline was due largely to the impact of hurricanes Gustav and Ike on the Gulf Coast industry. (Full story)

Meanwhile, the Philadelphia Fed index, a regional reading on manufacturing, fell in October to an 18-year low of negative 37.5 from a reading of 3.8 in September, versus forecasts for a drop to negative 5. Any reading that is negative suggests weakness and a number this negative could suggest recession.

The September Consumer Price Index (CPI) showed only modest inflationary pressure fast cash advance loan. CPI was flat, versus the 0.1% rise economists surveyed by Briefing.com were expecting. So-called "core" CPI, which strips out volatile food and energy prices, rose 0.1% versus expectations for a rise of 0.2%.

The number of Americans filing new claims for unemployment last week fell to 461,000 from a revised 477,000 the previous week. Economists thought claims would fall to 470,000.

In other news, mortgage rates spiked last week, seeing the biggest week-to-week jump since April 1987. (Full story)

Financials: Citigroup and Merrill Lynch both reported big quarterly losses, due to steep credit and mortgage-related writedowns.

Citigroup (C, Fortune 500) reported a loss of $2.8 billion, or 60 cents a share, versus a profit a year earlier. However, analysts were expecting an even bigger loss of 70 cents, according to Thomson Reuters. Shares fell 2%. (Full story)

Merrill Lynch (MER, Fortune 500), which is being bought by Bank of America (BAC, Fortune 500), reported a loss of $5.2 billion, or $5.58 per share, versus a smaller loss a year ago. Analysts had forecast a loss of $5.22 a share. Shares ended barely higher. (Full story)

Credit market: Lending rates have improved slightly this week following a series of initiatives on the part of the U.S. government and banks around the world to get money flowing through the system again.

Libor, the overnight bank-to-bank lending rate, fell to 1.94% from 2.14% late Wednesday, according to Bloomberg.com. The three-month Libor, what banks charge each other to borrow for three months, fell to 4.50% from 4.55% Wednesday.

The Libor-OIS spread, a measure of cash scarcity, stood at 3.40%, barely changed from 3.41% Wednesday.

The TED spread, which is the difference between what banks pay to borrow from each other for three months and what the Treasury pays, narrowed to 4.08% from 4.31% late Wednesday. The spread hit a record 4.65% last week. The wider the spread, the more reluctant banks are to lend to each other.

Credit froze up in the wake of the housing market collapse, subsequent subprime lending fallout and contraction in the bank sector. The lack of available credit has punished the already weak economy, making it difficult for businesses to function on a daily basis and for consumers to get loans.

The Federal Reserve has made potentially trillions of dollars available to banks. Earlier this week, the U.S. government said it would invest at least $250 billion in the nation’s banks as part of the $750 billion bank bailout plan.

One sign of business lending showed it remains pinched. (Full story)

Treasury prices inched higher, lowering the yield on the 10-year note to 3.93% from 3.95% late Wednesday. Treasury prices and yields move in opposite directions.

The yield on the 3-month Treasury bill, seen by many as the safest place to put money in the short term, rose modestly to 0.40% from 0.23% late Tuesday. The low yield shows investors are still willing to take a meager return on their money rather than risk the stock market. Last month, the yield on the 3-month bill skidded to a 68-year low around 0%.

Other earnings: After the close Wednesday, eBay (EBAY, Fortune 500) posted a higher-than-expected quarterly profit, but warned fourth-quarter results won’t meet forecasts. Shares fell 6% Thursday.

On Thursday, Nokia (NOK) reported weaker quarterly sales that missed forecasts and weaker earnings that met forecasts. The Finland-based mobile phone maker also said it expected sales to rise in the fourth quarter and said that this could help it boost its market share. Shares gained 4%.

Google (GOOG, Fortune 500) slipped ahead of its earnings report, due after the close today. The Internet search leader is expected to post higher quarterly sales and earnings. However, the slowing economy has likely hurt its advertising sales. (Full story)

Other markets: Global markets tumbled following Wall Street’s big retreat on Wednesday, with the Japanese Nikkei slumping 11% and the London FTSE down 5.4%.

Gasoline prices fell another 4.1 cents overnight, to a national average of $3.084 a gallon, according to a survey of credit card activity by motorist group AAA. It was the 29th consecutive day that prices have decreased - in the past month alone, they’re down more than 73 cents a gallon.

COMEX gold for December delivery plunged $34.50 to $804.50 an ounce. A variety of other commodities declined as well.

In currency trading, the dollar rose against the euro and the yen. 

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German investor confidence probably slumped in October as the deepening financial crisis threatened to tip Europe into a recession, a survey of economists shows.

The ZEW Center for European Economic Research will say its index of investor and analyst expectations dropped to minus 51.1 from minus 41.1 in September, according to the median of 35 forecasts in a Bloomberg News survey. ZEW releases the report, which aims to predict economic developments six months ahead, at 11 a.m. in Mannheim.

Germany's benchmark DAX share index dropped 22 percent last week, the most on record, as concern grew that the credit crunch will drag the global economy into recession. Policy makers from the Group of Seven nations pledged at the weekend to take “all necessary steps'' to stem a market panic and European governments yesterday announced plans to avert a banking collapse across the region.

The ZEW index “will look lousy,'' said Klaus Baader, chief European economist at Merrill Lynch & Co. in London. “Fear is increasing that the extreme turbulence will hurt the real economy. I'm particularly concerned about cooling foreign demand.''

Germany will provide as much as 500 billion euros ($681 billion) in loan guarantees and capital to bolster its banking system, the country's biggest government intervention since the Berlin Wall came down in 1989.

Slower Growth

Stocks rallied around the world yesterday, with the DAX gaining the most on record, after governments in Europe, the U.S. and Asia agreed to support banks cash till payday advance.

Still, the German government will have to lower its forecast for economic growth next year to “below 0.5 percent'' from its current target of 1.2 percent, said Volker Kauder, parliamentary chief of Chancellor Angela Merkel's Christian Democrats.

The economy contracted in the second quarter and may not have recovered in the third as exports faltered and consumer spending waned. Business confidence dropped to the lowest level in more than three years in September.

Deutz AG, a German maker of diesel engines for trucks and ships, yesterday cut its full-year sales forecast for a second time this year, saying the financial crisis has hurt demand in the U.S. and Europe and that growth in China is slowing.

Europe's economy may be cushioned by falling oil prices, the euro's retreat and lower interest rates.

Oil prices have almost halved since reaching a record $147.27 a barrel in July, boosting consumers' purchasing power, while the euro has dropped more than 14 percent over the same period, making European exports more competitive.

The European Central Bank and the U.S. Federal Reserve this week led a global round of rate cuts, lowering their benchmarks by half a point to 3.75 percent and 1.5 percent respectively. Investors expect the ECB's key rate to be at 3.25 percent by December, according to Eonia forward contracts.

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The United States is developing plans to buy equity stakes in financial institutions, providing another weapon in its war against financial market turmoil, U.S. Treasury Secretary Henry Paulson said on Friday.

Providing the first confirmation of the plan after a meeting of Group of Seven finance chiefs, Paulson said the equity purchases would be made alongside purchases of distressed assets as a way to recapitalize U.S. banks and other institutions reeling from soured mortgages and illiquid securities.

The Treasury will use authority granted by Congress in last week’s $700 billion financial rescue legislation to buy largely nonvoting common or preferred shares. Paulson said the two-pronged approach would more effectively recapitalize banks.

“We can use the taxpayers’ money more effectively and more efficiently, have it go farther and get more for their dollars and more protection if we develop a standardized program for making and encouraging equity participation,” he said.

The proposal drew quick support from Democratic presidential nominee Barack Obama, who said it would provide “more money to lend to families and businesses.”

Disclosure of the plan comes as the Treasury is considering a number of other major steps to deal with a worsening crisis of confidence that has frozen credit markets and halted interbank lending.

The Treasury may also push for a global backstop of interbank lending and possibly an unlimited guarantee on bank deposits, according to sources familiar with the discussions. A Treasury spokeswoman said the Bush administration is reviewing a British proposal to guarantee interbank lending.

The direct capital injections would help banks overcome the bad debts weighing down their balance sheets and boost their capacity to lend, complementing the bailout bill’s objective of removing illiquid assets. 

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Iceland Prime Minister Geir Haarde has some advice for his fellow citizens after the country's banking system imploded: Go fishing.

“We are too small a country to sustain such a big banking system,'' he said in an interview. “We have fantastic resources and an abundance of green energy and we will now utilize that and the other resources we have, the ocean and human capital.''

Over the past decade, Iceland's banks backed a buying binge that saw local investors take stakes in retailers such as Saks Fifth Avenue, jeweler Mappin & Webb, and the parent of American Airlines, while the nation's banks snapped up financial services firms abroad. That foreign adventure came to an end this week with the government seizure of Iceland's top three banks, including Kaupthing Bank hf, the nation's biggest lender.

Now residents are betting that the Atlantic island's natural resources, primarily fish and geothermal energy, will help the country survive.

“We can live off the land as there are not so many of us, and we have heating, clean water and fish,'' said Reykjavik resident Kristinn Johansson, 50, outside a branch of the now- nationalized Kaupthing. “We will be fine. We can eat what we can fish.''

Haarde was Iceland's finance minister from 1998 to 2005 and assumed his current position two years ago. He advocated the sale of state enterprises and bank investments abroad to diversify the economy.

Banks Encouraged

As Iceland's global ambitions grew, the country's top three lenders amassed assets valued last year at 12 times the country's $19 billion gross domestic product. The island's population of 320,000 puts it on a par with Cincinnati.

Iceland's export of marine products made up about a third of total exports in August, according to Statistics Iceland in Reykjavik. Most trawlers hunt for cod and haddock.

Catch volumes have been in gradual decline since a peak in 2000, when Iceland's haul nudged 2 million tons. The contribution from fisheries to GDP dropped to about 7 percent last year, from 12 percent a decade earlier.

Iceland has fought to protect its Atlantic fishing territory. The country's navy clashed with the U.K. during the 1950s and 1970s as Britain sent frigates to guard trawlers it said were being harassed by Icelandic gunboats. The U.K. remains the largest customer for Iceland's fish, accounting for more than $400 million of fish exports last year.

Tensions With Britain

Now relations with Britain are frayed again, this time over the fallout from the banking crisis (faxless payday loan).

Iceland's government said this week that it wouldn't cover losses for British customers after the collapse of Landsbanki Islands hf, whose U.K.-based Icesave unit had 300,000 account holders. Britain's Conservative Party and local governments, called councils, may have had as much as 1 billion pounds ($1.73 billion) deposited with Icelandic banks.

“We used to stick to what we do up here and then we went abroad, into new economics for Iceland, and that went wrong,'' said Vilhjalmur Bjarnason, the director of the Association of Small Shareholders in Iceland. He held stock in the Icelandic banks, including Kaupthing and Glitnir Bank hf.

The volcanic island sits on an oceanic ridge in the Atlantic that provides a continuous flow of magma, keeping the crust warm and providing natural energy. Iceland has more than 200 volcanoes and more than 600 hot springs.

Industry Expansion

The government is trying to lure power-intensive industries to harness the resource. Aluminum producer Alcoa Inc. is expanding its Fjardaal smelter, which will produce 300,000 tons of aluminum this year.

“Given the bank situation, which is like an earthquake, the state is likely to speed up the building of new aluminum smelters,'' said Hjoerleifur Hringsson, director of sales and marketing at Icelandic real estate management company Stutulaut ehf, as he relaxed in the nude in a sauna at a Reykjavik geothermal spa.

Iceland has potential generating capacity from known high- temperature fields of about 25 terawatt hours a year, according to the Ministry of Energy, equivalent to about 20 nuclear power plants. In 2004, geothermal plants in Iceland generated 17 percent of the nation's electricity, and that proportion may reach 20 percent by next year, the government said.

“Icelanders are considering all opportunities now on how to use our hydropower and energy resources, which could bring investments and jobs,'' said Bragi Arnason, a professor of chemistry at the University of Iceland and a geothermal energy researcher.

Still, the country will need foreign investors to underwrite any expansion of non-service industries. European nations haven't offered financial assistance, forcing Haarde's government to turn to Russia for a loan of as much as 4 billion euros ($5.48 billion).

That bailout will be the first step in Iceland's economic recovery, according to residents.

“We will rise again,'' Arnason said.

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Japan's corporate bankruptcies jumped 34 percent last month, the fastest pace in eight years, as exports slumped and credit-market turmoil engulfed the world's second-largest economy.

Bankruptcies rose to 1,408 cases in September from the same month a year earlier, Tokyo Shoko Research Ltd. said in a report in Tokyo today. That's the biggest jump since March 2000, when cases rose 38.6 percent, according to Bloomberg data.

Japan's Nikkei 225 Stock Average tumbled 9.4 percent, the biggest rout since October 1987, on concern the global credit crisis will prolong the economy's stagnation. Corporate failures are rising at the steepest rate since Japan's banking crisis in 2000 as the credit shortage deprives businesses of cash.

“We're in the middle of a recession,'' said Masamichi Adachi, senior economist at JPMorgan Chase & Co. in Tokyo. “Real-estate and construction companies have been in a mini- bubble over the last few years because of all that money coming from abroad. Now that's withdrawn.''

The yen surged beyond 100 per dollar for the first time in six months after a plunge in Asian stocks prompted investors to reduce holdings of higher-yielding assets funded in Japan. The currency traded at 100.07 per dollar as of 5:03 p.m. in Tokyo. The Nikkei slumped to 9,203.32, the lowest since June 2003.

Human21 Corp. led a 31 percent increase in the number of real estate agents that went bust last month, today's report showed. The four biggest bankruptcies among publicly traded companies this year were all real-estate firms, according to data compiled by Bloomberg News. Construction bankruptcies increased 41 percent in September.

Property Slump

Banks cut lending as growth in Japan's property market slowed and the collapse of the subprime market in the U.S (payday loans). kept potential buyers from making acquisitions. Developers are also being squeezed by higher prices for steel and other raw materials used in construction, and by a change in building-approval regulations in June 2007 that slowed applications.

The credit crisis is spreading to other industries, with smaller companies saying they are having a harder time securing funds needed to grow at a time when the economy is on the verge of a recession.

“It's definitely going to spread. Logically speaking it has to happen because exports are declining and we'll see a sharper decline in external demand,'' JPMorgan's Adachi said.

Failures in manufacturing rose 44 percent, Tokyo Shoko said. Transportation industry bankruptcies surged 133 percent, and in finance and insurance climbed 56 percent.

Lending `Severe'

“An increasing number of small firms have reported that their financial positions are weak, and lending attitudes of financial institutions are severe,'' the Bank of Japan said in its monthly economic assessment today. “Certain industries have faced a worsening in funding conditions, as conditions for their bond issuance have deteriorated and financial institutions have become more cautious in extending credit.''

Companies that went bankrupt last month employed a total of 16,887 workers, the most this year, Tokyo Shoko said. Japan's unemployment rate climbed to 4.2 percent in August, the highest in two years.

Total liabilities rose to 5.36 trillion yen last month, the second highest in the postwar period, the report said, after Lehman Brothers Holdings Inc.'s Japan unit filed for bankruptcy in the country's second-biggest corporate collapse.

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