HONG KONG -- There is now a witch hunt under way in Hong Kong to find the evil "speculator" that has caused property prices to fall 45% and the stock market to tumble by 50%.

No doubt it does not occur to the politicians that a 14-fold increase in Hong Kong's property prices over the past 15 years may have been just a tad excessive. The result is that middle-income housing in Hong Kong --


this 45% fall -- still sells at around a 10% premium per square foot to prime Manhattan office space at record highs. That and other emerging market follies are thanks to a lot of careless lending by banks to emerging markets in general and hedge funds in particular. This is now reversing dramatically.

But that is the way of financial markets: When they fall, we need to find a villain. But when they simply rise further or faster than we expected, that just means that we were all a lot smarter than we thought we were! Put another way: When you wake up with a hangover, that may be painful but the real problem is the excess that came the night before.

It would be nice to think that the collapse of


was the grand finale to this process but, in reality, it is only the beginning of the final phase. In due course the politicians and regulators will have their say and restrictions will be placed on hedge funds and their lenders.

The reality is that the financial world already expects that to happen and is desperately trying to deleverage in anticipation of it. We are in the throes of a full-blown global credit contraction that will not have run its course until all bubbles have been eliminated. I would venture to suggest this means at least another 1,500 points off the


for starters -- and similar damage to the European markets.

When Mr.


spoke of "irrational exuberance" in December 1996, he was absolutely on the mark, but he was not just talking about the U.S. market. Messrs.


and Greenspan clearly understand the extent of the problem worldwide, and I am sure we will now see dramatic attempts to inject liquidity into the system to try and make the ongoing domino collapse somewhat more orderly.

Most shares of banks in the U.S. have fallen 50% in the past two months. Investors would do well to ponder what such a signal means. I suspect that right now, a number of major international banks are in the process of losing very significant amounts of their capital. And for every dollar they lose, they have to contract lending by around $13.

We are in a phase where it is much easier to lose rather than make money. People would do well to conserve their cash and hold it only in the safest of banks. Long-dated bonds are likely to prove a false sanctuary from here on -- given the huge flight to quality that has already occurred.

A wider lesson needs to be learnt: That all financial systems are dynamic, so that all controls and solutions to earlier problems need to be reviewed constantly. The Hong Kong dollar peg was a great solution to the 1983 problem, but it should have been revised or abandoned in the early 1990s, possibly replaced by a proper central bank structure similar to Singapore's.

The squeeze that the peg is currently imposing on Hong Kong was always going to result from a bull market in the U.S. dollar. An honest defense of the peg should include the statement that the 50% falls in asset prices so far are a marvelous demonstration that the peg is working exactly as it should, even if that is not how we like it to work.

Equally, the capital adequacy ratios for banks called for by the

Bank for International Settlements

were sensibly introduced back in the 1980s in response to the problems of that decade. The trouble is that banks are simple machines that take money in the front door and transmit 13 times as much out the back door.

The BIS idea was a good one for its time -- as was the


. Both need a good makeover. However, in calling for such changes, it would be sensible to realize the dramatic contraction now under way worldwide, and the central banks should be ready to counter that with fairly sizeable injections of liquidity. There is a massive contraction in the measure known as "velocity of circulation of money" going on here, and a grave danger that this will not be realized until it is too late.

The restructuring of the IMF and BIS can start now -- so long as it does not distract in any way from the immediacy of the current crisis. Currently, that crisis is quite manageable. But it has the potential to become extremely dangerous if global political paralysis at the top level is allowed to interfere.

Peter D. Everington is the chief investment strategist of Hong Kong-based Regent Pacific Group, an emerging markets investment company that serves as advisor to the Regent East European Fund, as well as a number of other emerging markets funds investing in Asia and Russia. Everington began his career in 1980 with GT Management (now called Chancellor LGT) in the U.K.