Prof who predicted current crisis says stocks will drop as banks go 'belly up'

US stocks will fall and the US government will nationalise more banks as the economy contracts through the end of 2009, said Nouriel Roubini, the New York University professor who predicted last year’s economic crisis.

“The stock market is a bit ahead of the real macroeconomic and financial news,” Roubini, a professor at NYU’s Stern School of Business and the chairman of consulting firm Roubini Global Economics, said in an interview with Bloomberg Television in London On Thursday. “We’ll have some major banks going belly up that will need to be taken over.”

The global equity rebound in March that sent the Standard & Poor’s 500 Index to its best monthly advance in 17 years is a “bear-market rally” and US Treasury yields will “remain relatively low” as investors flock to the safest assets, Roubini said. Treasury Secretary Timothy Geithner’s new plan to remove toxic debt from financial companies won’t be enough for insolvent banks, he added.

Roubini’s outlook contrasts with predictions this week from Templeton Asset Management’s Mark Mobius and Traxis Partners’ Barton Biggs, who said that equities are poised to rally as government efforts to revive the economy and banking system begin to work. But Roubini warned that investors are “way too optimistic” about the prospects for a recovery in the economy and earnings.

The S&P 500 surged 7.1 per cent on March 23 after Geithner unveiled a plan to finance as much as $1 trillion in purchases of illiquid real-estate assets, using $75 billion to $100 billion of the Treasury’s remaining bank-rescue funds. The government is conducting stress tests of banks to determine how much more capital each of them will need.

Stress tests
Roubini said the stress tests will reveal that some banks need to be taken over and have their good and bad assets separated before being sold to the private sector. He estimates loan and securities losses in the US will reach $3.6 trillion.

Critics of Geithner’s plan – including Nobel laureate Paul Krugman, a professor at Princeton University – say the government should take over banks loaded with devalued assets, remove their top management, and dispose off the toxic securities. Sweden had adopted the temporary nationalisation approach in the 1990s.

“Some banks have to be nationalised,” said Roubini. “It’s going to be bumpy ahead of us.”

Geithner and US Federal Reserve Chairman Ben S Bernanke this week called for new powers to take over and wind down failing financial companies. They said the US also needs stronger regulation to constrain the risks taken by firms that could endanger the financial system.

‘Deflationary forces’
With “deflationary forces” lingering for as long as three years, Roubini said US government bond yields will remain low and American house prices will fall as much as 20 per cent in the next 18 months. While the dollar will initially benefit as investors seek a safe haven in the US, the currency will ultimately drop as the country’s trade deficit shrinks, he said.

Mobius – who helps oversee about $20 billion of emerging-market assets as executive chairman at San Mateo, California-based Templeton – had said on March 23 the next “bull-market” rally has begun. Then Biggs, the former chief global strategist for Morgan Stanley who now runs New York-based hedge fund Traxis Partners, predicted the same day that the S&P 500 may jump between 30 per cent and 50 per cent.

The benchmark index for US equities has surged 11 per cent in March, poised for its biggest monthly gain since 1991. The MSCI Emerging Markets Index of equities in 23 developing nations is headed for the steepest monthly advance on record after rising 20 per cent in March.