Finance & Business World

Former Federal Reserve chairman Paul Volcker said the rise of China and other emerging economies has underscored a decline in the comparative economic and intellectual leadership of the U.S.

“I don’t know how we accommodate ourselves to it,” Volcker, an economic adviser to President Barack Obama, said in an interview with PBS’s Charlie Rose taped yesterday in New York. “You cannot be dependent upon these countries for three to four trillion dollars of your debt and think that they’re going to be passive observers of whatever you do.”

The former Fed chairman also said unemployment at 9.7 percent will slow the pace of recovery from the U.S. recession as Americans default on mortgages and consumer loans. Moreover, commercial real estate loans are likely to cause further losses for banks.

“This recovery will be slower,” he said. “We can’t just pump up consumption and pump up housing again.”

Group of 20 leaders, meeting in Pittsburgh last week, announced plans for more durable economic growth, including reducing U.S. dependence on overseas capital and cutting the reliance of emerging nations such as China on exports.

World leaders decided that the G-20, which includes emerging economies such as China and Brazil, will replace the Group of Eight as the main forum for global economic coordination. The shift illustrates how the excesses that led to the financial crisis have compelled industrial nations to share governance of the world economy.

Less Dominant

The growth of emerging economies is “symbolic of the relative, less dominant position the United States has, not just in the economy but in leadership, intellectual and otherwise,” Volcker said.

The G-20 accounts for about 85 percent of global gross domestic product and was created after a spate of currency devaluations plagued emerging markets from Russia to Thailand in the 1990s. The G-8, which comprises the most advance industrial economies of Europe and North America plus Japan and Russia, accounts for about half of global GDP.

China has overtaken Germany to become the world’s third- largest economy and may soon become the biggest exporter. It passed Japan a year ago as the main foreign investor in U.S. government debt. China, Russia, Brazil and India together hold about 42 percent of international reserve assets, excluding gold.

Herding Cats

“I would like to think that given the history of the past, given the strength, actual and potential of the American economy, we can still provide a kind of indispensable element of leadership here,” Volcker, 82, said. “But it’s not going to be dictatorial, I’ll tell you that. It is very hard to herd these cats together.”

Volcker repeated that under a new regulatory structure the Fed should be given primary responsibility for supervising banks rather than a council of regulators led by the U.S. Treasury.

The Treasury has “no professional background and no traditions in the area of banking supervision,” Volcker said.

“In the distribution of authorities among regulatory institutions, it’s really the Federal Reserve that naturally should to be surveying the whole world, so to speak,” he said.

Volcker has criticized the Obama administration’s plan to give the Fed authority to supervise “systemically important” financial firms. Such a designation would imply government readiness to support the firms in a crisis, encouraging excessive risk-taking, he said in said in testimony to the House Financial Services Committee on Sept. 24.

Independent Agency

The central bank should instead oversee bank regulation carried out by an independent agency, Volcker has said. The chairman of that agency could also be a vice chairman of the Fed, to increase accountability and ensure the Fed is fully informed.

Volcker is chairman of the Economic Recovery Advisory Board, a body created by Obama in February to recommend responses to the crisis.

Since January, Volcker has advocated that regulators prohibit financial companies whose collapse would pose a risk to the economy — those considered “too big to fail” — from engaging in certain types of trading and investing. The administration wants stricter oversight for such companies and tighter capital and liquidity requirements.

Volcker said the Fed and the White House “were right in providing massive support” to financial markets after the collapse of Lehman Brothers Holdings Inc. Sept. 15, 2008, and to bail out American International Group.

“Faced with those emergencies, they did what they had to do at the time,” he said.

Giving Succor

While more might have been done ahead of time to prevent Lehman’s demise, “I think if it had been rescued somehow and kept alive, I still think you would have had an attack on the other institutions,” he said. The government’s actions give “succor to the next institution that gets in trouble and to their creditors in particular,” Volcker said.

The interview will air in two parts, on Tuesday and Wednesday on PBS, and will be rebroadcast on Wednesday and Thursday on Bloomberg Television channels around the world as part of a new partnership between Rose and Bloomberg.

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Belgian drugs, chemicals and plastics maker Solvay said on Monday it would sell its drugs unit to U.S. partner Abbott Laboratories for 4.5 billion euros ($6.61 billion) in cash and reinvest in chemicals and plastics.

Abbott had agreed to buy the unit to bolster its flagging prescription drug business by giving it a number of new medicines in late-stages of testing, sources familiar with the deal had earlier told Reuters.

“We are building a new refocused group with the financial means to further accelerate sustainable growth,” Solvay’s board chairman Alois Michielsen said in a statement.

The enterprise value of the deal is 5.2 billion euros, including 4.5 billion in cash, additional potential milestone payments of up to 300 million euros between 2011 and 2013 and liabilities of about 400 million euros.

Solvay said the proceeds from the deal will be reinvested in external and organic growth in strategic projects in chemicals and plastics with a sharp focus on long term value creation.

Studies about such reinvestments are ongoing, it added.

Abbott co-markets with development partner Solvay the cholesterol treatments TriLipix and Tricor. It is also working in the U.S. on a combination cholesterol treatment with AstraZeneca using Trilipix as Solvay pursues the development of a combination treatment for Europe and elsewhere.

The transaction is expected to be closed in the first quarter of 2010, pending approval by competition authorities and Solvay said it communicate the impact of the deal on its results when finalised.

($1=.6810 Euro)

(Reporting by Aaron Gray-Block; Editing by Hans Peters)

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Billionaire hedge-fund manager George Soros called on the world’s leaders to create “global regulations” to ensure stability as the world emerges from the financial crisis.

“We need to establish proper regulation because the system we allowed to develop for the last 25 years did collapse,” Soros said today during a video link with a conference in Yalta, southern Ukraine. “The authorities need to agree on that, but whether they will be able to do that is an open question.”

President Barack Obama and other Group of 20 leaders meeting in Pittsburgh are uniting behind a plan to force banks to tie compensation more closely to risk and to tighten capital requirements, while they agreed to maintain stimulus measures to spur the global economy amid the worst financial crisis in more than six decades, according to officials from G-20 governments.

The regulatory “should not be led particularly by the U.S., but it is very important to bring China into it,” Soros said. He criticized the Obama administration on bank bailouts.

“That was a mistake,” Soros said. “More radical recapitalization should have been done even if that would have meant that the state would take temporary control of the banking system,” Soros said. “But Obama felt that it would not be accepted and decided they would not do it.”

Soros said he expects the U.S. economy to show “very slow” expansion over the next several years even after the government injected “tremendous amount of money” into the economy to renew growth.

‘Better Balance’

“Next year or the year after, there will be a drop, but it will not be severe,” Soros predicted faxless cash advance. “China has resources to sustain its economy and it will drive the global economy. Europe will be in better balance” than the U.S., “but I cannot see growth there either. Brazil will show good growth,” he said.

U.S. gross domestic product shrank at a 1 percent annual rate in the second quarter, less than the 1.5 percent decline projected by economists in a Bloomberg survey. The drop in GDP was the fourth in a row, the U.S.’s longest contraction since quarterly records began in 1947. The world’s largest economy has shrunk 3.9 percent since last year’s second quarter, marking the deepest recession since the Great Depression.

Withdrawing stimulus measures from the economy “will be a very risky operation,” Soros said. “I do not think we will see run-away inflation, but the fear will increase interest rates and cause slow growth.”

Derivatives Markets

Soros also said that derivatives markets should be under more control. “Some derivatives carry tremendous risks and they cause systemic risks,” he said. “This is why I think that some kinds of instruments need to be licensed and some instruments should be banned.”

He said the U.S. dollar likely will retain its position as a reserve currency.

“Clearly, the dollar has lost its dominant position as the most desirable and widely used reserve currency, but there is no alternative to the dollar,” said Soros. “There is general reluctance now to hold currencies, there is a flight toward commodities or real assets.”

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Loans to households and companies in Europe grew at the slowest pace on record in August as the economy struggled to shake off its worst recession since World War II.

Loans to the private sector rose 0.1 percent from a year earlier, the slowest growth since records began in 1991, after increasing an annual 0.7 percent in July, the European Central Bank said today. On the month, loans fell 0.1 percent. M3 money- supply growth, which the ECB uses as a gauge of future inflation, slowed to 2.5 percent in August from 3 percent in July.

The global recession has made banks reluctant to lend and also eroded demand for debt. While the economy of the 16 nations sharing the euro may resume expansion in the current quarter, growth is likely to remain muted unless credit flows improve and companies and households increase spending. The ECB has cut its benchmark interest rate to a record low of 1 percent and is flooding banks with cash in an effort to revive lending.

“Today’s data justifies the ECB’s extremely cautious stance once again,” said Michael Schubert, an economist at Commerzbank AG in Frankfurt. “The risk of a credit crunch has not disappeared even with the economy recovering, quite the contrary. With the new stronger regulation coming out of the G- 20, banks will be even more careful about lending.”

Capital Requirements

President Barack Obama and other Group of 20 leaders meeting in Pittsburgh today are uniting behind a plan to force banks to tie compensation more closely to risk and tighten capital requirements, U.S. officials said.

The German and French economies unexpectedly expanded in the second quarter and Europe’s manufacturing and service industries grew for a second month in September.

M1, which captures the most liquid form of money in the economy such as cash and overnight deposits, grew 13.6 percent in August from a year earlier, the ECB said, up from an annual increase of 12.1 percent in July. Accelerating M1 growth indicates more money is available for spending and investment which, when enacted, spurs economic growth.

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The International Monetary Fund will raise its forecasts for the global economy when they are published in coming days, Managing Director Dominique Strauss- Kahn said.

“For a long time the IMF has been predicting a recovery in the first half of 2010,” Strauss-Kahn said today on France’s Europe1 radio. “When we come out with our latest forecast in the next few days, they will be a bit better,” he said, adding that 2009 will also be stronger than previously expected.

The Washington-based lender’s official forecast is currently for a global contraction of 1.4 percent this year, followed by growth of 2.5 percent in 2010. It is scheduled to release a new set of estimates on Oct. 1.

The pickup in the global economy has been helped by government stimulus packages and record-low interest rates. Straus-Kahn said that Group of 20 leaders gathering in Pittsburgh today need to be careful not to withdraw that economic support too quickly.

“We must continue the support for the economy that is already engaged,” he said, likening the coordinated fiscal and monetary effort to putting out a fire. “This is not yet the time for sponges, we’re not completely sure the fire is out. For now, the biggest risk would be to stop too quickly.”

The G-20 leaders need to look for new motors of growth as U.S. consumers collectively shift from being net borrowers to net savers, he said. While China and India will take up some of that slack, they can’t take all of it, he said.

“What happened in the past year has never existed before - - it was international coordination never seen before,” he said. “Everyone was so afraid they wanted to work together. Will the will to work together persist? That’s the question on which everything is staked.”

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U.S. budget deficits will continue to pile up in the next decade, eventually reaching an unsustainable level that may result in an economic collapse, according to Richard Duncan, author of “The Dollar Crisis.”

The U.S. has little chance of resolving its deteriorating financial position because the manufacturing industry continues to shrink, leaving the nation with few goods to export, said Duncan, now at Singapore-based Blackhorse Asset Management.

In “The Dollar Crisis,” first published in 2003, Duncan argued that persistent current account deficits by the U.S. were creating an unsustainable boom in global credit that was destined to break down, resulting in a worldwide recession.

“The bad news is at the end of a 10-year period we’re still not going to have fixed the problem,” Duncan said in an interview in Hong Kong yesterday. “Eventually it will lead to high rates of inflation well down the line and really destabilize things to the point where there may be irreparable damage. A kind of ‘Fall of Rome’ scenario.”

The federal budget deficit will total $1.6 trillion this year, while combined shortfalls are forecast to total $9.05 trillion in the next 10 years, according to projections from the nonpartisan Congressional Budget Office.

The U.S. has run a current account deficit every year since 1982 except one, with a peak of $788 billion in 2006. Foreign purchases of U.S. debt has propped up the dollar and allowed a credit-fueled spending boom by the nation’s consumers, according to Duncan.

Falling Wages

U.S. workers are now likely to face declining wages and that may create a political backlash against free-trade policies, he said. The nation’s jobless rate jumped to a 26-year high of 9.7 percent in August, while wages logged a 2.6 percent increase from the previous year.

“As unemployment remains above 10 percent well into the foreseeable future, it won’t be long before Americans start voting for protectionism,” Duncan said. “That’s going to be bad because protectionism will mean world trade will diminish and will overall reduce global prosperity.”

Once the U.S. debt burden becomes too large and the government can no longer sell debt to the public the Federal Reserve will likely step in and monetize it, resulting in high levels of inflation, he said.

Economic Crisis

The MSCI World Index plunged by a record 42 percent last year as the collapse of Lehman Brothers Holdings Inc. triggered a credit crunch that forced financial institutions to post more than $1.6 trillion in losses and writedowns.

As an analyst, Duncan began warning of imbalances in Thailand’s economy in 1993 that eventually led to the devaluation of the baht in 1997 and a regional economic crisis. The nation’s SET Index dropped as much as 88 percent from its 1994 peak to a low in 1998.

Prior to joining Blackhorse, Duncan was the head of investment strategy at ABN Amro Asset Management. He has also held positions at James Capel, Indosuez W.I. Carr and Salomon Brothers.

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The U.S. economy will add jobs by the end of this year, said Dean Maki, chief U.S. economist at Barclays Capital Inc. in New York.

The unemployment rate will “peak slightly below 10 percent,” Maki said today in an interview on Bloomberg Radio. “We don’t think there’s a lot left to go.” In August, the rate reached a quarter-century high of 9.7 percent.

After losing jobs every month since December 2007, “payroll growth turns positive” within three months, Maki said. September, however, will show another net loss in non- farm payrolls, he said.

After expanding at a 3.5 percent annual rate this quarter, the economy will grow at a 4 percent pace in the fourth quarter and at a 5 percent rate at the start of 2010, Maki wrote in a research report issued Sept. 17. Maki previously forecast a 3 percent growth rate at the start of 2010.

The rebound in the economy is being driven by housing and consumer spending, Maki said today.

“Housing has turned in a durable way in our view” and “consumer spending is actually coming in stronger than we expected,” he said allstate insurance company. In housing, “affordability has improved so dramatically” and “housing prices have fallen faster than incomes.”

Obama Stimulus

The Obama administration’s $787 billion economic stimulus plan and the “cash-for-clunkers” auto rebate program “are not the only sources of support,” Maki said. Additionally, “wage, salary and income growth turned positive in July,” he said.

In a report issued today, the Conference Board said the index of leading indicators rose for the fifth consecutive month, led by the stock market, consumer confidence and housing.

The LEI, a gauge of the economic outlook over the next three to six months, advanced 0.6 percent in August, according to the New York-based private research group. That marked the longest string of increases since 2004.

(In the U.S., hear Bloomberg Radio on satellite radio: Sirius Channel 130 and XM Channel 129. In New York City, tune to WBBR 1130 on the AM dial.)

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U.S. Senate Banking Committee Chairman Christopher Dodd plans to propose legislation that would merge four bank agencies into one super-regulator, The New York Times reported on Saturday.

Dodd’s approach, meant as a starting point for the Senate’s response to the financial crisis, differs sharply from that envisioned by President Barack Obama, especially in lessening the oversight role of the Federal Reserve, the paper said.

The Democratic senator told the Times in an interview on Friday he wanted to restore consumers’ confidence in the nation’s banking system, while not hampering business.

“We clearly need to put in place an architecture that restores confidence and makes people feel that when they engage in financial activities, from making a bank deposit to buying insurance or investing in stock, that they can have confidence in the system,” the newspaper quoted Dodd as saying

“On the other side of this, I don’t want to strangle business,” he added payday loan lenders.

The Times said the Obama administration had considered, then rejected, the idea of combining the Federal Reserve, the Office of Thrift Supervision, the Federal Deposit Insurance Corporation and the Comptroller of the Currency into one “superagency.”

The Obama administration wants to put the Fed in charge of overseeing large, interconnected firms and systemic risk in the economy. Bank oversight would be streamlined under the Obama plan with a new national bank supervisor, merging the Comptroller of the Currency and the Office of Thrift Supervision.

(Writing by Chris Michaud; Editing by Peter Cooney)

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European Union leaders said the Group of 20 nations should agree on binding rules backed by national sanctions to curb bank bonuses, a week before a summit of the top industrial and emerging nations in Pittsburgh.

The EU agreement on the need for action failed to include details of how such curbs would be achieved, leaving any details to be negotiated at the G-20 summit. Leaders of the 27 EU states said voters would react with anger if bankers were allowed to award themselves large bonuses while relying on public money for their survival.

“The bonus bubble burst,” said Swedish Prime Minister Fredrik Reinfeldt, whose country holds the EU’s rotating presidency, after chairing the meeting in Brussels late yesterday. “We have agreed to say that ‘enough is enough’ and that we need to move away from the current culture of compensation based on short-term performance.”

Leaders agreed that bonuses should be tied to a bank’s performance and that guaranteed bonuses should be avoided. The “major part” of bonuses should be deferred and “could be canceled in case of a negative development in the bank’s performance.”

Luxembourg Prime Minister Jean-Claude Juncker said that the U.S. and the U.K. don’t like the idea of imposing ceilings on bank bonuses.

‘Means Nothing’

“The British have problems with it, likewise the Americans,” Juncker was quoted as saying by Agence France- Presse. “So we have agreed on this formula which means nothing, that we are going to study the question.”

U.K. Prime Minister Gordon Brown said officials were still negotiating over whether bonuses should be kept to a proportion of revenue instead of profits. He said a “limitation on individual bonuses” was also being discussed.

“People have put forward a number of proposals,” Brown said. “What we are looking for are common international rules that can suit every country with the minimum of interference and a maximum of impact.”

Asked whether Europe would go it alone if the G-20 failed to agree on curbing bonuses, European Commission President Jose Barroso said the EU’s executive arm has already “put on the table” some “precise rules on bonuses.”

These are “not only recommendations but legally binding proposals,” Barroso said. “So whatever the result of Pittsburgh, the commission position is: ‘yes,’ we should adopt in Europe some of these rules.”

Difficulties

Yet differences over bonuses highlight the difficulties the world’s leading industrialized and emerging economies face as they seek agreement on measures to prevent a recurrence of the worst financial and economic crisis since World War II.

Michael Froman, a deputy assistant to U.S. President Barack Obama said two days ago that the U.S. is reluctant “to set individual compensation levels.”

Also, even though Brown has joined German Chancellor Angela Merkel and French President Nicolas Sarkozy this month in calling for G-20 leaders to impose binding global rules on bonuses, and back “sanctions” for banks that refuse to cooperate, other differences remain.

The U.K. has rejected signing up to proposals that would have any national government set a cap on bonuses, suggesting countries will implement any agreement in different ways.

Rejecting Cap

Chancellor of the Exchequer Alistair Darling earlier this month signed up to a G-20 pledge to ask regulators to study ways of tying a bank’s bonus pool to regular wages, rejecting a cap for individual firms.

“We need a cap for the bonuses as part of your income, or part of the revenue of the company” that a person is working for, Reinfeldt said. “We, of course, know that the United States is very often against this idea.”

Merkel said bonus payment limits are one of her top goals for the G-20 summit.

“I’m optimistic that we can make clear that bonus payments must be tied to long-term profitability,” Merkel said, adding that such payments can’t be granted when companies make losses.

Europe and the U.S. may also struggle to reconcile their views on capital requirements for banks. BNP Paribas SA Chief Executive Officer Baudouin Prot said the “very high” capital ratios proposed by the U.S. would put French and other European lenders at a disadvantage to their U.S. competitors.

Raise Capital Rules

Sarkozy said that imposing tougher requirements on banks to maintain capital reserves would help curb bonuses.

“The idea of raising capital requirements in proportion with speculative activities, which are generating these so shocking bonuses, seems a more efficient capping method,” Sarkozy said

At a preparatory meeting of European finance ministers and central bank governors in London on Sept. 5, French Finance Minister Christine Lagarde said the G-20 should amend and enact the so-called Basel II rules before discussing any new rules.

Leaders of advanced and emerging economies will discuss steps to regulate markets, curb executive pay and raise capital requirements for banks at the Sept. 24-25 summit in Pittsburgh, the latest bid to coordinate the global response to the crisis.

Merkel, speaking in Frankfurt yesterday, urged G-20 members to agree “that no financial center, no financial institution and no financial product remains unregulated.” Capital requirements must be designed to limit banks’ size, she said.

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Investors are buying Indian rupees, South Korean won and Brazilian reais, betting developing nations will raise interest rates even after the Group of 20 said it’s too early to end central bank support for the global economy.

Swap contracts, in which traders exchange a fixed rate for a floating one, indicate the market is pricing in the fastest increases in borrowing costs in the G-20 in India and South Korea. The cost of a one-year agreement in India has risen to 1.61 percentage points over the central bank’s benchmark, up from 0.95 point on June 30. Spreads in Indonesia and Brazil have also grown and are wider than the U.S., Germany and Japan.

Threadneedle Asset Management Ltd., Schroders Plc and Ashmore Investment Management Ltd. say they are buying emerging- market currencies as policy makers in New Delhi, Seoul and Brasilia become more focused on avoiding inflation and stock- market bubbles than on supporting the global recovery. The won and the rupee will be the world’s best-performing currencies in the year ahead, each gaining about 7 percent, median estimates in Bloomberg strategist surveys show.

“It’s going to be the emerging-market world that sees rate hikes first, and that should support currencies,” said Richard House, who manages $2 billion in developing-nation fixed income at Threadneedle in London and started buying the rupee and the real in the past month. “India will be among countries that will be first.”

The International Monetary Fund forecasts developing nations will expand 4.7 percent next year, almost eight times faster than the 0.6 percent growth in advanced economies. Consumer prices will rise 4.6 percent, dwarfing developed countries’ 0.9 percent inflation rate, the IMF predicts.

‘Imbalances’

Brazilian central bank President Henrique Meirelles, a Harvard Business School graduate, told reporters in Brasilia on Sept. 15 there was a danger accelerating growth could cause “imbalances” in demand and supply. Latin America’s largest economy created jobs in August at the fastest pace in 11 months, the Labor Ministry said Sept. 16. The real is the second-best performing emerging-market currency against the dollar this year with a gain of 29 percent to 1.8055 per dollar.

Bank of Korea Governor Lee Seong Tae told reporters in Seoul on Sept. 10 he would “consider a revision to our policy direction.” Spending at the nation’s three biggest department- store chains climbed 7.6 percent from a year earlier in August, government data released yesterday showed. The won climbed 4.2 percent this year to 1,208.7 per dollar.

Challenge

Reserve Bank of India Governor Duvvuri Subbarao, a former fellow at the Massachusetts Institute of Technology, said at a conference in New Delhi on Sept. 15 that balancing growth and inflation has become a challenge for India. The Sensex stock index has rallied 73 percent this year. The rupee has gained 1.4 percent this year to 48.1525, after plunging to a record low of 52.18 on March 3.

By contrast, Federal Reserve Chairman Ben S. Bernanke, who studied at both Harvard University and MIT in Cambridge, Massachusetts, said on Sept. 15 the U.S. economy isn’t strong enough to reduce the 9.7 percent unemployment rate quickly. European Central Bank President Jean-Claude Trichet said on Sept. 4 that it’s “premature to declare the financial crisis over,” while Bank of Japan Governor Masaaki Shirakawa said on Aug. 31 he’s not yet confident in his nation’s recovery.

‘Exit Strategies’

President Barack Obama and other G-20 leaders will pledge in Pittsburgh next week to keep stimulus policies in place until a recovery is certain, Michael Froman, a deputy assistant to Obama, said in a Sept. 16 interview. Finance officials from the group said after talks in London Sept. 5 that they would engage in “coordinated exit strategies” when growth returned. The collection of industrial and emerging economies includes Brazil, China, India, Indonesia, Mexico, Russia, Saudi Arabia, South Africa and Turkey.

Rate increases would boost the appeal of selling currencies from nations with lower borrowing costs to buy assets where they are higher, a tactic known as the carry trade. The three-month London interbank offered rate, or Libor, for dollar loans has fallen to 0 personal loans for people with bad credit.29 percent from 1.43 percent at the end of 2008 after the Fed reduced its key rate to 0.25 percent. Brazil’s benchmark rate is 8.75 percent, a record low.

The Israeli shekel has gained 5 percent this quarter to 3.7389 per dollar as the Bank of Israel became the first central bank to tighten monetary policy in the past year, increasing its benchmark rate by a quarter of a percentage point to 0.75 percent on Aug. 24.

Won, Rupee

Developing nation currencies will continue to outperform, with the won forecast to climb 7.2 percent by Sept. 30, 2010, the rupee estimated to rise 6.4 percent and the Israeli shekel 5.8 percent, according to the median estimates by strategists in Bloomberg surveys. The Brazilian real will advance to 1.79 per dollar from 1.80, according to the forecasts.

Emerging-market central banks may try to limit appreciation and protect exports by selling their own legal tender, according to Allianz SE, Europe’s biggest insurer.

Global foreign-exchange reserves have climbed by $441 billion in the past five months to a record $7.088 trillion, reflecting increased dollar purchases by China, South Korea, India and Brazil, data compiled by Bloomberg show. They declined by $340 billion in the eight months ended March as the global credit crisis forced investors to dump emerging-market assets and hoard dollars.

Stability

“Gains in currencies won’t be huge because there is a desire for stability among central banks,” said Nikhil Srinivasan, who oversees $20 billion of assets as chief investment officer for Asia and the Middle East at Munich-based Allianz.

The Asian Development Bank warned in a Sept. 15 report that premature interest-rate increases could disrupt financial markets. Merrill Lynch & Co. and Banco Votorantim SA predict Brazil will keep rates on hold next year, Bloomberg data show.

The search for higher yields helped emerging-market bond funds take in a net $3.6 billion in a 21-week stretch that ended Sept. 2, the longest streak of weekly inflows in two years, according to EPFR Global in Cambridge, Massachusetts.

Foreign holdings of Indian bonds climbed 28 percent since March 31 to $6.4 billion, stock exchange data show. Japanese investors bought a net 1.66 trillion yen ($18.2 billion) in overseas debt in the week ended Sept. 12, the most since June 2005, the Ministry of Finance said yesterday.

‘Value’

“We do see value in both emerging-market debt and emerging-market currencies,” said Nicholas Gartside, head of global fixed income at Schroders in London, who oversees $31 billion. “Asia could be the first region to raise rates.”

The spread between the benchmark monetary-policy rate and the one-year swap rate, a measure of expectations for rate changes, has increased by 38 basis points in South Korea this quarter to 1.42 percentage points, 53 basis points to 1.48 percentage points in Indonesia and 55 basis points to 0.57 percentage point in Brazil. In Germany, the U.S. and Japan, the spreads are 0.18 percentage point, 0.36 point and 0.42 point.

Goldman Sachs Group Inc. forecasts India, Indonesia and South Korea will raise interest rates in the first quarter of 2010. The Reserve Bank of India may increase 300 basis points to 6.25 percent and Bank of Korea by 75 basis points in 2010 to 2.75 percent, Goldman Sachs chief Asia-Pacific economist Michael Buchanan wrote in a Sept. 8 note.

Doug Smith, chief economist for the Americas at Standard Chartered Plc in New York, predicts Brazil will add 50 basis points by March 31.

Inflation will accelerate to 4.4 percent in Brazil in 2010, from 4.3 percent in 2009, according to a Bloomberg survey of 13 economists. For the U.S., the median prediction of 66 analysts is for 0.5 percent deflation this year and 1.9 percent inflation in 2010.

“The interest-rate turn will come first in emerging markets for the simple reason they don’t have a credit crunch,” said Jerome Booth, head of research at Ashmore Investment Management in London, which manages $25 billion of developing- nation assets.

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