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Greek, European woe could cause problems for US

Monday - 5/14/2012, 5:50pm  ET

By BRADLEY KLAPPER and DAVID McHUGH
Associated Press

WASHINGTON (AP) - Your 401(k) could sink again. A plummeting euro may make it harder for American companies to sell goods overseas. Credit could be tightened.

These are all potential complications of a European debt crisis that risks spiraling out of control. And in today's interconnected global economy, Greece's troubles could over time become a headache for all of Europe and by extension the rest of the world.

That includes President Barack Obama as he faces an already difficult re-election bid, and voters as well, from machine tool makers in Michigan to chemical plant workers on the Gulf coast. Pensioners and home buyers also could be affected.

All this because Greece is at a crossroads, unable to form a government and decide whether it will continue on a path of harsh austerity measures or walk away from its debts and give up on the euro. That would leave many European countries holding their debts and shake the foundations of a currency used by 331 million people.

Here's what a Greek debt default and exit from the 17-nation eurozone might mean for people in the United States:

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BANKS:

The short-term financial consequences of Greece defaulting may be limited across the Atlantic. American banks already have sharply reduced their exposure to Greece by more than 40 percent to $5.8 billion, according to the government, and Cornell University economist Eswar Prasad said he foresees little immediate blowback for the U.S. financial sector.

But the concern is that market speculation would then fall on the far larger economies of Spain and Italy. Both are deep in the red and heavily dependent on credit markets to stay afloat. And their debts are held by Europe's big banks.

Economists call this threat contagion. Scared investors sell off their assets in Europe's most troubled economies and the governments struggle to access credit while falling into deeper recession. A crisis as bad as Greece's in a bigger nation would have severe global implications.

"Greece is peanuts as far as the United States is concerned," said Uri Dadush, former economic policy chief at the World Bank. "But if Greece leads to the contagion of Spain and Italy, the euro could implode. This is big business for the U.S. We're talking trillions of dollars in direct and indirect exposure to the European banking sector."

Economists cite the example of Lehman Brothers' collapse in 2008 and the financial turmoil that followed. A repeat scenario could see credit lines dry up as banks short of funds limit their risks, making it harder to secure loans for business expansion and home mortgages.

Lending and credit growth remain especially weak in Europe, where over $1 trillion in cheap, three-year loans to financial institutions by the European Central Bank helped stave off a complete credit cutoff. A massive bailout fund has been set aside in case Spain or Italy fails, too, but a default by either country could spell disaster for German, French and other heavily exposed banks. They, in turn, deal extensively with American banks.

"It's a question I don't want to find out the answer to, honestly," Dadush said. "There is a real danger of global depression."

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MARKETS:

Many pension funds, insurance companies and other big investors have dumped or written off investments in Greece such as government bonds. But there's no telling how the markets will respond to a default.

For investors who have already faced a half-decade of turbulence, this weekend's failure in Greece to form a new government led Monday to steep market drops across Europe. Britain's FTSE slipped 2 percent, while Germany's DAX was off 1.9 percent and France's CAC 40 fell 2.3 percent. In the U.S., the Dow Jones industrial index was down 0.8 percent at 12,714.

Each round of bad news from Europe raises uncertainty. No one knows how a Greek exit from the euro would work and the financial swings have added to the stress on Europe's economy. And every time stocks plunge and the borrowing costs for troubled countries rise, businesses and consumers grow more cautious. This makes them more reluctant to expand companies or buy more property.

Europe's turmoil "does not bode well for the fledgling U.S. recovery," Prasad said. He predicted that uncertainty in Europe will rattle U.S. financial markets, as happened last year, shaking fragile consumer and business confidence.

Individual American investors should be concerned as well, even if most have little direct exposure to southern Europe. Market declines across Europe could drag down Asia and the United States, hitting portfolios and retirement funds. And when people feel poorer, economies shrink.

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