Chinese economist predicts globe will slump back into recession

TOKYO / SEOUL - Global policymakers held an emergency conference call Sunday to discuss the twin debt crises in Europe and the United States that are causing market turmoil and stoking fears of the world sliding back into recession.

After a week that saw $2.5 trillion wiped off global stock markets, political leaders are under mounting pressure to reassure investors that Western governments have both the will and ability to reduce their huge and growing public debt loads.

South Korea said finance deputies from the Group of 20 major and emerging economies discussed Sunday morning the European debt crisis and the US sovereign rating downgrade.

A Japanese government source said finance leaders from the Group of Seven developed economies would also discuss the crises and may issue a statement later.

The European Central Bank (ECB) scheduled a rare Sunday afternoon conference call, and agreed to step in to buy eurozone bonds with efforts to forestall the eurozone's debt crisis from spreading.

It is anticipated that the ECB's purchase of Italian and Spanish debt would likely prompt a considerable relief on global markets.

In Washington, a White House economic adviser castigated ratings agency Standard and Poor's for downgrading the US credit rating to AA+ from AAA, a move that over time could ripple through markets by pushing up borrowing costs and making it more difficult to secure a lasting recovery.

S&P's one-notch downgrade of the US sovereign credit, while not totally unexpected, adds another level of uncertainty.

Loss of gold-plated status for the world's benchmark interest rate risks pushing up borrowing costs on everything from car loans, mortgages and corporate debt to government bonds worldwide.

China, the largest foreign holder of US debt, has yet to comment officially on the downgrade.

But some economists have expressed concern about the worsening debt situation in the US and Europe.

Chen Daofu, an economist with the Development and Research Center of the State Council, said that the market has been panicked by the US economy.

If it continues to worsen and the US Federal Reserve decides to launch a new round of quantitative easing (QE) and depreciates the dollar, it will surely hurt China's interests as a key US debt holder. China holds $1.16 trillion in US Treasury bonds.

Increasing the US money supply will increase inflationary pressure in China and make the Europe debt crisis more difficult to solve, he said.

Chen said that China should reduce its holdings of foreign financial assets and increase investment in the real economy.

Li Daokui, a professor of finance at Tsinghua University and an academic member of the central bank's monetary policy committee, said that China must prepare for a new round of QE, which will force investors to sell long-term US bonds.

He Fan, a researcher with the Chinese Academy of Social Sciences, predicted that a global financial crisis might happen next year because of the sluggish US economy and the debt crisis in Europe, according to news portal 163.com.

Before the US downgrade was announced, Foreign Minister Yang Jiechi said on Friday that China hoped that the US would adopt a responsible monetary policy and ensure the safety of other countries' assets in the US, according to an interview published on the Foreign Ministry's website.

Washington's Asian allies rallied round the battered superpower, with Japan and South Korea both saying their trust in US Treasuries remained unshaken.

"I expressed our country's position on the (G-20 conference) call that there will be no sudden change in our reserve management policy," South Korean Deputy Finance Minister Choi Jong-ku told Reuters, referring to Seoul's heavy ownership of US bonds out of more than $300 billion in foreign reserves.

"There's no alternative that provides such stability and liquidity," added Choi, who declined to elaborate further on the G-20 discussion.

There was no confirmation of the timing of a G-7 call for finance ministers and central bankers, but a second Japanese government source said it "would be normal" for it to take place before Asian markets opened on Monday.

The most immediate concern for financial markets was the debt crisis in the eurozone, where yields on Italian and Spanish debt have soared to 14-year highs on political wrangling and doubts over the vigor of budget cuts.

Investors saw the ECB's failure to include Italy and Spain in a re-launch of its bond purchases late last week as a sign of the depth of political divisions over the role of the eurozone currency.

German officials wanted stiffer austerity programs in place before the ECB shoulders more Italian and Spanish debt.

The danger is that further pressure on Italian and Spanish bonds could undermine an already damaged European banking system and lock Italy, the world's eighth largest economy, out of the market.

Defending its downgrade of the US credit rating, S&P cited the acrimonious debate in Washington on raising the debt ceiling and near political paralysis over the best way to reduce the country's $14.3 trillion debt, which on the current trajectory could climb above 100 percent of national output this decade.

The US Treasury said the rating agency's debt calculations were wrong by some $2 trillion.

S&P has confirmed it changed its economic assumptions after discussions with the Treasury Department but said that did not affect its decision to downgrade, a decision slammed by President Barack Obama's National Economic Council chief Gene Sperling.

"It smacked of an institution starting with a conclusion and shaping any argument to fit," Sperling said in a statement.

Obama called on lawmakers once again on Saturday to set aside partisan politics and work together to put the nation's fiscal house in order and stimulate the stagnant economy.

Wang Xiaotian contributed to this story.

Reuters