Fed's Kroszner: Inflation has added to global woes
Reuters
September 1, 2008

WASHINGTON (Reuters) - U.S. economic woes have spilled into both developed countries and emerging markets, and inflation pressures have added to the challenges, Federal Reserve Governor Randall Kroszner said on Monday.

"Throughout the world, the challenges posed by weakening economic activity were further complicated by mounting inflationary pressures as food and energy prices soared," Kroszner said in remarks prepared for delivery to a Central Bank of Argentina banking conference in Buenos Aires.

The influence of U.S. housing and financial problems on economic weakness elsewhere demonstrates how intertwined the world's economies are, he said.

"It has become clear that the initial assessment that the United States had decoupled from the rest of the world was incorrect, and that, in fact, the global economy remains closely connected by both trade and financial linkages," he said in remarks.

Discussing global financial linkages, the Fed governor said the income received by U.S. residents on their foreign investments has consistently exceeded that received by foreigners on their holdings in the United States.

"It might appear that the rest of the world pays the United States for the privilege of lending to it," he said. "Imagine a credit card that paid you interest to carry a debt balance, instead of the other way around. Sign me up!"

But in fact, the difference can be explained by the different composition of cross-border investments, Kroszner said.

More than two-thirds of investments into the United States are in the form of debt instruments, while over half of U.S. investments abroad are in the form of equity securities and direct investment, he said.

Thus, U.S. investments abroad tend to be concentrated in riskier instruments, while investments in the United States are focused on low-volatility assets, he said.

As a result, the return received on U.S. direct investment claims on the rest of the world is larger than that paid by the United States on its direct investment liabilities to the rest of the world or on other assets, Kroszner said.

"This high return may in part reflect a risk premium associated with investments in emerging economies," he said.

Similarly, the United States has been able to borrow from abroad without a corresponding increase in its national debt because of the composition of its portfolio, Kroszner said.

Most U.S. liabilities are debt securities, which realize small capital gains, while a large share of U.S. claims on the rest of the world are equity securities, which receive much larger capital gains, he said.

While the net difference in the capital gains rate is only slightly in favor of U.S. investors, when applied to the enormous gross claims and liabilities positions, it generates a sizable difference, he added.

(Reporting by Mark Felsenthal; Editing by Leslie Adler)

(Reporting by Mark Felsenthal; Editing by Leslie Adler)

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