There are three major macroeconomic factors that are currently impacting the global economy. One is the slow recovery in the US, which is primarily an employment problem. Second is the growth of the emerging markets like the BRIC countries of Brazil, Russia, India and China. The third is the ongoing Eurozone crisis that has been lingering for the past two years.
It is important to understand the nuances of each of these components that make up most of the world economy. The debt crisis in the Eurozone has the potential to topple any advancement made in the US and the emerging markets. The world economy is all interconnected now. A decline in one will cause the entire thing to go down. Just look what happened when the housing market crashed in the US. It caused a financial crisis that permeated the entire world.
To help you get a sense of the Eurozone debt crisis, let me sketch out how it looks right now. I will give you a summary on where it’s been, where it currently is and where it is expected to go.
Started with Greek debt, but it won’t end there
Greece was the first one in crisis, but it certainly won’t finish there. The big fear is that the situation in Greece will spread to the rest of the continent. That fear is not unsubstantiated.
Here is what happened in Greece. People loved government spending. They loved getting the perks and kept voting in the politicians that were passing out these perks.
They also loved not having to pay taxes. Tax collectors were paid to be bad at their jobs. If they were too good collecting taxes, the people would become discontented and may change out the politicians in power.
On top of that, the economy wasn’t growing. It was quite sluggish and the global financial crisis was basically the nail in the coffin.
High government spending, low tax revenues and a slowing economy all had the effect of putting the Greek government in this debt crisis.
Those were all of the components that led to this crisis. But they got deeper into trouble because they essentially hid the debt from public view. It may have been caught earlier and it may have been dealt with a lot sooner if their balance sheet had accurately reflected the debt that was on their books.
The European Debt Contagion
You’ve probably heard this term a lot. This is where the big fear lies. There is a highly likelihood that if they are not able to resolve this situation in Greece, that the troubles will spread to other countries that are in similar situations.
The big economy that everyone should be afraid of is Spain. They are significantly larger than Greece and a default there would mean disaster for the Eurozone.
The other countries that are of concern are in what people are calling the PIIGS nations. That would be Portugal, Ireland, Italy, Greece and Spain. Minus Ireland, they are southern European countries.
Cultural Divide – North and South
This leads us to the underlying problem in the Eurozone economy. The Northern nations tend to be more conservative with their government spending and borrowing. They also tend to have stronger economies.
At the same time, the economies in the south are a lot more laid back. They tend to borrow more and spend more. Their economies also tend to be weaker than in the north.
At the end of the day, it’s a cultural divide. And I don’t know that the European Union experiment can be sustained with two regions with vastly different cultures when it comes to money.
Global Implications of the Eurozone Debt Crisis
The world is flat. Globalization has caused all of the world’s economies to be interdependent. That means what happens in Europe affects us all.
They are one of the biggest customers for the goods produced by emerging markets. If Europe has less money to spend, they will buy less from places like China and Indonesia. That means places like Brazil and Russia won’t be able to export as much of their natural resources to places like China and Indonesia. If the Eurozone goes down, that means the emerging markets lose one of their biggest customers.
The same goes for the US. The US may not sell as much stuff to Europe as Asia, but it still exports stuff there. In addition, many of our financial institutions are tied up with theirs.
For example, there are billions of dollars of derivatives that have Greek debt as the underlying asset. We don’t exactly know how many of those contracts are held by US institutions. You can bet that it is a significant amount. So if these European countries default on their debt, it may trickle down to affect investors and banks in the US.