Economy
5:26 am
Sun December 4, 2011

How Europe's Troubles Could Become Ours, Too

Originally published on Sun December 4, 2011 12:04 pm

This week, European leaders will huddle in intense meetings, trying to work out a comprehensive plan to solve crushing debt problems.

Higher stakes are hard to imagine.

If all goes well at a summit in Brussels, the political leaders will make an announcement Friday, spelling out their long-term commitment to a plan to loosen a choking tangle of debt troubles. If they can't agree on a plan, the EU debt crisis could lead to the kind of financial chaos that economists say surely would hurt the United States.

"They have to fix this in a matter of days or weeks, not months," said Nariman Behravesh, chief economist for IHS Global Insight. "This is the single-biggest threat to the global economy — and to the U.S. economy."

The threat is so serious that last week, the U.S. Federal Reserve began working with the European Central Bank, the Bank of England, the Bank of Japan and Swiss National Bank to help pump dollars into Europe's banks. That extra money created enough "liquidity" to keep loans flowing in Europe and prevent a panic.

That coordinated action came in the wake of rumors that a major European bank was about to collapse. The central bankers' move helped tamp down fears of an impending credit crunch, but did not address the underlying problem of excess debt. As Bank of England Governor Mervyn King said, Europe's problem is "a solvency crisis, not a liquidity crisis."

Americans still looking for work or facing the prospect of losing a home may be wondering why the Federal Reserve is taking action in Europe. They may feel this country has enough problems of its own to keep U.S. central bankers busy.

But economists are unanimous in saying the United States has an enormous stake in this week's negotiations in Europe. Here are some reasons why:

First, the European Union, made up of 27 countries, is the United States' single biggest trading partner. Americans and Europeans do roughly a half-trillion dollars worth of trade with each other every year.

Because of those elaborate ties, U.S. and EU manufacturing orders tend to move closely in tandem, rising and falling at the same time. At the same time, U.S. corporations derive many of their profits from Europe.

So Behravesh says U.S. stock prices would likely drop if exports to Europe, or profits from Europe, were to drop. That would dampen any expansion plans for U.S. businesses, he said.

For a coal miner in West Virginia or a corn grower in Iowa or a chemical plant worker in Texas, sales to European customers are vital to maximize jobs, exports and profits.

"A hit on U.S. corporate profits in Europe would come back and haunt us in the form of slower hiring," Behravesh said.

But Americans not only trade with Europeans, they compete with them. U.S. manufacturers are trying to sell goods to customers in Asia and the rest of the world. Unfortunately for U.S. factory workers, Europe's troubles have driven down the value of the euro, giving eurozone manufacturers a currency advantage.

As a result, German exports have been booming, rising 18 percent between mid-2009 and mid-2011, according to Sebastian Mallaby, a senior fellow for international economics at the Council on Foreign Relations. Economic studies show that growth over the period would have been only 10 percent if not for the cheap-euro advantage, he said.

But the trade and profit issues pale compared with the really big threat posed by the EU debt crisis, i.e., the possible collapse of major European banks.

A banking crisis in Europe would hit this country, too, because large financial institutions are global these days. Many Americans may look in their own wallets and find an HSBC credit card in there. That company is based in London. Others may have their savings deposited with ING — that's a Dutch company.

This financial integration can bring new products and services to customers around the world, but it also brings new risks. The risk comes from the banks in Europe that own bonds issued by European governments. If Greece, Spain, Italy or others suddenly were to default on their debts, those banks could find themselves becoming insolvent as their assets become worthless.

If major European banks were to collapse, loans could freeze up — and financial panic could spread around the globe. Economists all say that would be a very chilling scenario that inevitably would severely damage the U.S. economy.

European bankers and political leaders are scrambling now to make sure that doesn't happen. EU Economics and Monetary Affairs Commissioner Olli Rehn said last week that Europe is entering a "critical period of 10 days to save the eurozone." That 10th day comes this Friday at the Brussels summit.

Friday's summit is now "being seen as the likely deadline for one last, final chance for Europe to put together 'the plan,'" said Otis Casey, a credit analyst with Markit, in a written assessment of the EU's troubles.

Copyright 2013 NPR. To see more, visit http://www.npr.org/.

Transcript

AUDIE CORNISH, HOST:

With all the stories of economic woe across the Atlantic, we've decided to look at what Europe's debt crisis means for this country, so we've invited an NPR senior business editor Marilyn Geewax. Welcome, Marilyn.

MARILYN GEEWAX, BYLINE: Hi. It's good to be back.

CORNISH: So a few days ago, our own Federal Reserve Bank stepped into this crisis, right? The Fed joined other central banks to make it easier for banks about the world to get their hands on dollars. So why would we do that? Because at first, it seemed like the U.S. really wouldn't get too involved in this.

BYLINE: Well, it can seem like Europe's troubles sound so far away and especially at a time when our own job market is still weak. Home prices are still falling. You'd think we'd have plenty of things to worry about right here at home. But really, we are so tied to the European economy that the United States cannot afford to ignore this European debt problem.

CORNISH: But how does it actually affect us?

BYLINE: Well, there's several ways. I'll start with just the simplest one. The European Union has 27 countries and together they're our single biggest trading partner. We do about a half a trillion dollars worth of trade with Europeans and, you know, they're very good customers. That means U.S. corporations get a lot of profits from Europe. Those profits help prop up our stock market.

So Americans have a lot of interest in seeing Europe continuing to grow. Believe me, whether you are a coal miner in West Virginia or a corn grower in Iowa or maybe a chemical plant worker in Texas, you do not want to see your European customers cutting back on their spending. We need Europe to stay healthy to maximize our own exports and our profits.

CORNISH: OK. So that's the issue of trade. I mean, are there any other connections that we can better understand this?

BYLINE: Well, we don't only trade with Europe, we also compete with Europe. We want to sell our goods to customers in Asia and the rest of the world. So if Europe's troubles are driving down the value of their euro, they have an advantage over us. German exports have been booming for a couple of years now in large part because this falling euro has given them a competitive advantage.

CORNISH: So it makes their goods cheaper?

BYLINE: Exactly. Think of it this way. Say you're a customer in China and you're trying to decide between a German car and an American car. If their currency is cheaper for you, well, the German car is going to be the better bargain, even if it really isn't the better vehicle. So that's a pretty unfair competitive advantage. But everything we've talked about has really just amounted to small potatoes compared with the really big issue. And that has to do with the banks.

CORNISH: So what is happening with the banks? And by banks, you mean the Europe's banks or what's happening here in the U.S.?

BYLINE: Well, it's both. Because whether we like it or not, big financial institutions are global today. You know, if you looked inside your own wallet, you might find a HSBC credit card. That company's based in London. Maybe you've got your savings with ING. That's a Dutch company. The reality is that our financial systems are really woven together. And unfortunately, the banks in Europe own a lot of the debt that was issued by those European governments. So if Greece or Spain or Italy, or any of those countries suddenly defaulted on their debts, those European banks would find themselves becoming insolvent.

They'd be holding a lot of worthless assets and that would be horrible for us. Remember in 2008 how bad the financial markets were when they were melting down?

CORNISH: I've got to say, I've got a feeling of deja vu here.

BYLINE: Yeah. Remember, we all remember that feeling pretty well. Three years ago, it was U.S. housing debt that triggered this. It could be that European government debt could trigger the same kind of contagion. But the big thing is coming up this week. In Brussels, the European leaders are going to get together. They're going to try to come up with a comprehensive plan and some economists are actually fairly optimistic at this point. They think everyone understands how high the stakes are, but don't break out that French champagne just yet because they've got a lot of work to do to really address the core problem of dealing with all of that government debt.

CORNISH: NPR's senior business editor Marilyn Geewax, thanks so much.

BYLINE: You're welcome. Transcript provided by NPR, Copyright NPR.