WORST-CASE SCENARIOS

Was Wall Street’s recent stock-market paroxysm just an isolated incident? Obviously, nearly everyone hopes so. But students of gloom and doom have developed some apocalyptic scenarios. A sampler:

THE JAPANESE THREAT The world’s second largest economy, in a severe slump for most of the ’90s, could get pushed into depression by the financial crises in Southeast Asia, which gets nearly 40% of all Japanese exports. More alarming, roughly one-third of all loans in Southeast Asia–many now in default–came from fragile Japanese financial institutions. Says University of Chicago political economist Marvin Zonis: “To raise needed liquidity, they might sell their holdings of Treasury securities.” Since Japan owns more U.S. Treasury debt than any other nation (more than $300 billion), a sell-off would cause U.S. interest rates to climb, which would bludgeon stock prices and endanger America’s economic expansion. The yen could plunge in value. Cheaper Japanese products could flood the markets and worsen the U.S. trade deficit. A trade war could result with America’s third largest trading partner.

THE EURO THREAT Europe’s biggest economies will soon replace their local money with one currency–the euro. This monetary union, which is to begin Jan. 1, 1999, will be the most important event to occur in the international financial system since the collapse of the fixed-exchange-rate system in the early 1970s. An independent Pan-European central bank will determine how much money to create and will set a single short-term interest rate for all member countries. But an interest rate that curbs inflation won’t do much to create jobs during the highest European unemployment since World War II. If confidence in the single currency is shaken, investors will buy U.S. dollars, driving up their value and making U.S. exports tougher to sell overseas. “If the euro breaks up in the end, that would really be catastrophic for all,” says Zonis.

THE OIL THREAT With King Fahd of Saudi Arabia laid low by a stroke, day-to-day policy decisions of the world’s biggest oil producer are being made by Crown Prince Abdullah–the first future King of Saudi Arabia in recent times who doesn’t speak English. “He’s more of a nationalist and is seeking better relations with Iran,” notes Zonis. Both Iran and Saudi Arabia are trying to figure out how to increase oil revenues. Experts believe they might strike a deal: Iran would cease all terrorist activity in Saudi Arabia; in exchange, the Saudis would work to raise oil prices, even if it meant cutting back its own production. That raises the specter of higher energy costs, the nemesis of low inflation.

THE CHINA THREAT With Hong Kong in hand, is Taiwan next? Global risk managers believe Taiwanese President Lee Teng-hui will soon move aggressively to gain independence for his country. That would cause China’s leadership to rattle its sabers at the island, as it did in 1996, almost certainly drawing the U.S. into a conflict. Next shoe: Beijing, which holds about $100 billion in U.S. Treasury securities, largely as a result of its huge trade surplus, could threaten to unload them, causing a major downturn in U.S. financial markets.