European debt crisis: Impact on the US

debt europe map euro coins
  • Overleveraged countries and banks with bad loans have slowed Europe's economy.
  • The European debt crisis affects American exports, and the stock and job markets.
  • A banking failure in Europe would impact the American banking system.

Banking » European Debt Crisis: Impact On The US

Out of all the problems facing the U.S. economy, the sovereign debt crisis in Europe may pose the greatest risk to the recovery. But what exactly is going on in Europe, and how does it affect American consumers?

What's going on over there?

When history looks back on this period of time, one of the overarching themes will be debt. Countries have become overleveraged on every level. But it's not the only problem facing Europe. Instead, there are three problems that are all self-perpetuating and feeding on one another.

First, some governments are too indebted and can no longer afford to pay the interest on their bonds. For example, in Spain, Italy and Greece, the cost of borrowing is high as there's just no certainty about their finances and how their problems will be resolved.

The second problem is the banking system. Banks in stronger European countries, such as France and Germany, own lots of bonds from struggling European countries, such as Greece, Spain and Ireland. That's not all: In Spain and Ireland, many banks have bad loans on their books as a result of their collapsing real estate markets.

Third, the European economy is decidedly not booming. In fact, it's in a recession. The office of statistics for the European Union, Eurostat, announced in early September that the gross domestic product for the 17-country eurozone had contracted by 0.2 percent in the second quarter of 2012, compared to the first quarter when no growth was recorded.

Europe's recession is no coincidence. These three problems feed off one another, depressing the EU economy, says Michael Klein, professor of international economic affairs at The Fletcher School of Law and Diplomacy at Tufts University.

"These are all interconnected because some of the bad assets that banks have are government loans, for instance, to Greece, where there's a very high chance or certainty that the money won't get fully repaid," says Klein.

"So the banking crisis leads to less lending by banks, which leads to a slowdown in economic growth. All three aspects of it -- the sovereign crisis, the banking crisis and the slow growth -- reinforce each other, and it makes it difficult because you can't solve one. You have to solve all three," he says.

Hits Americans in the pocketbook

Participating in the global economy has benefits, but it also comes with perils in that economic catastrophes on the other side of the world can have real impacts here at home. For instance, the European debt crisis and recession affect American exports and the stock market. There are consequences for global trade and possibly for the American financial system as well.

"Exports are an important source of the American recovery, so if Europe tanks, there will be fewer exports to Europe, and that will hurt American manufacturing," Klein says.

Not only does the European debt crisis directly affect American exports, it impacts other areas of the global economy, which further drags on growth here at home. For instance, "The recent slowdown in China has been attributed to weakness in Europe," Klein says.

"Europe being in a prolonged recession has caused the global economy to slow down. And that has an indirect effect here in the United States in terms of adding to our unemployment problems. If worldwide demand were higher, there would be more jobs created for American workers," says William R. Gruver, the Howard I. Scott clinical professor of global commerce, strategy and leadership at Bucknell University in Lewisburg, Pa.

Europe is not an insignificant part of global demand. Germany's economy alone is the fourth largest in the world, by nominal GDP, followed closely by France, but collectively the economies of all 17 euro-area countries are nearly equal to that of the United States, at about $13 trillion versus $15 trillion for the U.S. according to data from the International Monetary Fund for 2011.


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