Stock markets around the world dipped in response to a 10 percent drop in the Hong Kong market. The crash resulted from a continuing monetary crisis in Southeast Asia that forced Hong Kong to raise its interest rates to stabilize its currency. After a background report by Ian Williams of Independent Television News, Jim Lehrer discusses what the impact of today's drop in Hong Kong and the United States with Lawrence Krause of the University of California-San Diego's School of Pacific Rim Studies; Robert Hormats, vice chairman of Goldman Sachs International; and Bob Harrington, a stock trader with PaineWebber.

JIM LEHRER: At the end of the U.S. day the Hong Kong effect was an 187-point fall of Wall Street's Dow Jones Industrial Average. We get more on all of this from Lawrence Krause of the University of California-San Diego's School of Pacific Rim Studies; Robert Hormats, vice chairman of Goldman Sachs International; and Bob Harrington, a stock trader with PaineWebber. First, Mr. Krause, is there anything of significance that needs to be added to that report we just heard about the situation in Hong Kong that started all of this?

LAWRENCE KRAUSE, University of California, San Diego: Well, there are two surprises about this crisis. The first is that the spread effect, the contagion effect has gone not only from Southeast Asia to Northeast Asia. Korea wasn't mentioned, but Korea is a major competitor with Hong Kong as well and its currency has depreciated. That's the first surprise. The second surprise is that it's taken so long for the currency markets to clear. It's made a much longer crisis than normally occurs. So those are the two surprises.

JIM LEHRER: In other words, the currency is what--it was, as we just heard in the report, you agree with what Ian Williams said in the report--it was the decision to raise interest rates to back up the Hong Kong currency that caused this fall of the stock market, right?

LAWRENCE KRAUSE: Absolutely. The Hong Kong market is dominated by property companies, and when interest rates go up, they really suffer, along with some financial firms. Of course, Hong Kong is known for being a very volatile market. So it's not surprising that the stock market has taken such a big hit there.

JIM LEHRER: Okay. Now explain why it spread so quickly to the rest of the world. It had effects in Europe first before it came here. Now, why is that? Why would something that happened in American based on just raising some interest rates would cause all this to happen in Europe at Paris and Frankfurt and elsewhere?

LAWRENCE KRAUSE: Well, we are used to seeing markets impact on each other. And the more global the economy the more you will see this closeness impacting on one another. And we are in a global monetary system. So when one economy is, in fact, contracting liquidity--and that's what Hong Kong is doing by raising interest rates so sharply--it has an impact on others.

JIM LEHRER: Is that a psychological impact, or is that a real impact?

LAWRENCE KRAUSE: It's both. A lot of it is psychological because you are looking for bad news. We know the sign of this and the magnitude has been really surprising.

JIM LEHRER: In what way?

LAWRENCE KRAUSE: It's surprising by its size. Now, the U.S. market going down 2 percent, it's done that before, and we're only back to I think where we were last Friday, but the Hong Kong market is really down. When I looked at the impact of the ‘82 political crisis, it didn't go this far. And, of course, it then recovered within a couple of months.

JIM LEHRER: Okay. Mr. Harrington, on the U.S. market, what time did you go to work this morning for PaineWebber?

BOB HARRINGTON, PaineWebber: I was on my way to work, Jim, at 7:15 and actually had on the radio that bond markets were all down pretty good.

JIM LEHRER: So what did that say to you before you even got to work?

BOB HARRINGTON: Well, given that it is a global economy, the first thing we asked each other at PaineWebber was, how might this affect our market, what companies' earnings that have exposure to that part of the world, how it might affect them, so we listened to our strategist, PaineWebber, and we knew that given our markets traveled fairly far over the last couple of years that any uncertainty like this gives people reason to sell. So we felt that we would see some selling on the opening, which we did.

JIM LEHRER: And then it went up and it went to--at one point it was down over 260 points, was it not?

BOB HARRINGTON: Yes, it was. I think most of the day it was a struggle between the buyers kind of stepping away--it still felt to me like there's still money in our market; the buyers are there. But when there's this kind of uncertainty and anxiety, people have a chance to step back and maybe be a little bit pricey about when they purchase their stocks.

JIM LEHRER: Well, what were they afraid of? What was the--what were the traders on the American Stock Exchange afraid of?

BOB HARRINGTON: Well, I think what we're afraid of is what it does to our interest rate environment. If you change our rate picture, that would have a drastic effect on the earnings of our companies and, you know, that might get people to reconsider their stance on the market.

JIM LEHRER: Were there particular kinds of stocks that were sold an dropped in value more than others today?

BOB HARRINGTON: Some of the financial companies that have exposure in Southeast Asia maybe a little bit but really we saw a very rational market where people--it just made it tougher on the sellers today because you were selling into a market that was a little uncertain and had some fear in it.

JIM LEHRER: But no chaos, no panic? Your stomach wasn't tight all day?

BOB HARRINGTON: No, not really. It was--I thought the market acted very well. I didn't feel panic at all--acted very rational, I thought, given the uncertainty that this event caused.

JIM LEHRER: Mr. Hormats, tie all this together for us, for those of us who don't follow all of this, how this whole phenomenon that somebody makes a decision--the Central Bank of Hong Kong--many thousands of miles away--not only from New York but from many other parts of the world as well--somebody makes a decision to raise interest rates, and it causes all this turmoil throughout the world.

ROBERT HORMATS, Goldman Sachs International: Well, it's a global market, as we've been saying. And I think the point here is that this is really part of a longer-term phenomenon we've seen over the last several months, starting in Taiwan. It's really reverberated throughout first Southeast Asia, then the rest of Asia, and now, as you've pointed out, there is a sort of around-the-world domino effect. It's, in part, the fact that these are important economies, and when investors see problems in these economies, they look for similar problems in other economies. Second, the depreciation of these currencies makes these countries more globally competitive. So--

JIM LEHRER: Explain that. The value of their currency goes down. That means their products can be sold better, right?

ROBERT HORMATS: Exactly. Exactly right. The value of their currencies goes down; that makes their exports more competitive in international markets. And that puts pressure on the currencies of other countries which have not devalued because their currencies, in retrospect, relative to the Southeast Asians, look less competitive. So foreign investors and domestic investors look at those and say, gee, they may have to devalue as well to retain their competitiveness. And that really is the Hong Kong concern because Taiwan devalued its currency. They have a lot of reserves, and I think that is what triggered more than anything the concerns in the market about Hong Kong.

JIM LEHRER: In a general way, Mr. Hormats, is this something we're all going to have to get used to?

ROBERT HORMATS: Well, in a global market with a lot of money moving around, yes, we're going to have to get used to it. Capital moves very quickly, and it can reward countries for good performance, and it can punish them for bad performance. And it also reflects on our domestic market because if interest rates in these countries stay high and if growth slows down, that will weaken exports of American companies and weaken the profit outlook at the margin, to be sure, but nonetheless, it's a negative for a number of American companies, which have also become more global, along with the capital markets.

JIM LEHRER: What kind of companies?

ROBERT HORMATS: Well, companies that sell products for infrastructure development. They would be hurt because a lot of these countries in Asia now have to cut back on the development of domestic infrastructures because they don't have the money and they've got to pull back. Any company that exports capital equipment is going to be hurt. Virtually any company that has exported or plans to export a lot to Southeast Asia will be hurt somewhat because of weaker demand in Southeast Asia. At the same time they're going to try to export more here to overcome their domestic weakness; they're going to try to sell abroad.

JIM LEHRER: Sure. Mr. Harrington, was that--that thesis reflected in the reality of the markets today?

BOB HARRINGTON: Yes. I think that people feel that the multinational companies would certainly be affected by this, as Bob stated, and that created some uncertainty there. And a lot of those stocks did sell off.

JIM LEHRER: Mr. Krause, does the reverse--are we to a state now where the reverse could happen? In other words, let's say there was a problem in the Paris market tomorrow. Could that--that ricochet or domino effect come the other way as well?

LAWRENCE KRAUSE: It's possible, but remember most of these problems have a domestic component to it. Countries that are in sound position like the United States have less to worry about, and, indeed, that's why our market didn't behave as some of the other ones did. There is the positive side of this for the United States as well. As those imports are becoming more competitive, which means at lower prices, we don't have as much inflationary pressure here, and it may well our Federal Reserve that they should not be in any hurry to raise interest rates.

JIM LEHRER: Do you agree with that, Mr. Hormats, there is good news at one level for Americans, right?

ROBERT HORMATS: I think there is. That is--Larry's put his finger on it--that is really one of the benefits but I don't think we should be too confident about this because I think the negatives overwhelm the positives. One dimension we haven't talked about is the impact on Japan. As you know, Japan's a big market for American products. We already have a big trade imbalance with Japan. The circumstances in the rest of Asia will really hurt Japan badly because Japan does sell a lot to Southeast Asia. They'll sell less now, which weakens our economy. A lot of their financial institutions are heavily exposed to Southeast Asia, which hurts them. And they're already weak. So Japan is really becoming a growing trouble spot for the U.S., and that could have a major adverse effect on the United States down the road, along with all the other things we've talked about.

JIM LEHRER: Mr. Harrington, back to your real world here, when you left your office this afternoon to come over to our studio there--to the studio there in New York, did you leave--and you and your colleagues leave the work today, thinking, well, this was a one-day thing and this was over with, or do you expect worse or more or better tomorrow?

BOB HARRINGTON: Well, I think we're going to take our cue from the foreign markets. It may be a case--

JIM LEHRER: From what markets? I'm sorry.

BOB HARRINGTON: The foreign markets.

JIM LEHRER: Oh, I see. Sorry.

BOB HARRINGTON: It may be a case where the tail wags the dog here. We'll be keeping a watchful eye on what happens there. If we see some stability, I think obviously that would be healthy for us.

JIM LEHRER: What stability? How do you define stability?

BOB HARRINGTON: I'm not expecting the Hong Kong markets to just immediately rally back but if the precipitous fall stops and it tries to regain some structure there, I think that that would be healthy for our market.

JIM LEHRER: Mr. Krause, do you expect--is this a serious flaw, a serious drop for Hong Kong, or do you expect it to come back tomorrow and eventually this will be something we'll talk about as a blip?

LAWRENCE KRAUSE: I think it's going to be a blip but it may not be tomorrow when it comes back because there are some fundamental changes going on in Southeast Asia, and essentially it's reacting to the new competitiveness of China, so there's a lot of sorting out to do in basic economic structure, as well as exchange rates.

JIM LEHRER: But for the record, Mr. Krause, I should have asked you this earlier--there is no relationship to what happened in Hong Kong and the Chinese takeover per se. This was a not a political development on the stock market, right?

LAWRENCE KRAUSE: No. The political takeover went fine.

JIM LEHRER: And this doesn't have anything to do with that?

LAWRENCE KRAUSE: Nothing to do with that.

JIM LEHRER: Do you agree, Mr. Hormats?

ROBERT HORMATS: I do. I do agree with that. I think that the takeover went very well. It's been very smooth. I was just out there during the World Bank-IMF annual meeting. Things are going very well. This is a different kind of phenomenon which really relates more to other economic conditions in the region. And I do think that Hong Kong will come back. It may take a little bit--and I don't think they're going to devalue the Hong Kong dollar, which is something the market was concerned about.

JIM LEHRER: All right, gentlemen, thank you all three very much.