Political Gridlock Prevents U.S. from Helping Europe


The European debt crisis is coming to a head, and what Europe needs is cash. Germany is the only European country that is in a position to assist but has been hesitant to do more, and other funds are needed. The EU has gone all the way around the world to China to look for help. The U.S. has basically been written off as a potential source of help for Europe. In essence, I agree with this assessment, but not because the U.S. cannot afford it. Rather, it is the lack of willpower from our policymakers to make the tough decisions on our own deficit that prevents U.S. assistance.

The debt crisis in Europe is, to put it simply, very bad. Greece has been discussed on different occasions on PolicyMic. The crisis in Italy has also been discussed, and despite a new government headed by an internationally-respected financial technocrat, Italy’s 10-year bond-rate continues to stay above an unsustainable 7%. With every passing day of these high rates, it becomes more and more likely that Italy may need to be bailed out in order to keep one of the world’s largest economies from defaulting on its debt. Making it even worse is the fact that banks are already preparing for bad times by shoring up capital and tightening loan policies, which could lead to a global economic slowdown, if not recession, under circumstances similar to 2008. In a worst case but very possible scenario under which the euro zone breaks apart, European economies both big and small could see their GDP shrink 20-50% in a year, a catastrophic event if it were ever to occur.

It is tempting to think that what happens over there stays over there, and that it is simply none of our business. The truth, however, is that our economic growth is very much dependent on a healthy European economy. The EU taken together is the largest trading partner of the U.S., accounting for over half a trillion dollars in combined imports and exports. Even when looked at individually, the three largest economies in Europe (Germany, France, and the UK) are all on the top-10 list of largest U.S. trading partners. This does not even take into account the effect of an economic meltdown on our other large trading partners, including China, Canada, and Mexico. Finally, American banks and their own credit-worthiness are likely tied to the banks in Europe, and if any nightmare scenario plays out over there, it is likely to reach our own banks very quickly.

With a case for U.S. interest in potentially assisting Europe laid out, there still remains the elephant in the room: Can the U.S. afford such a bailout? The simple answer is to look at our own deficit of $14+ trillion and say ‘no’, but this is a simplistic response. The truth is that we could be closer to being in a position to do so than you may think. The current rate for 10-year U.S. treasury notes is hovering at around 2%, and two-year notes are below 0.5%, both of these numbers being well below the average over the past decade. These numbers show that despite slow growth, a large deficit, and political gridlock, investors still have a lot of faith in the U.S. economy and government. Additionally, this plan would likely be much more palatable to countries such as China, which are hesitant to invest in the EU bailout fund, but have shown no such caution in investing in U.S. treasury bonds. Even a sum similar in size to Obama’s $800 billion stimulus wouldn’t break the bank. The worry about the deficit should not be confused as something that is simply an immediate problem, with the budget needing to be balanced ASAP. Rather, it should be viewed more as a serious concern in the long term. If the U.S. had a long-term deficit reduction plan that included immediate bailout money for Europe, my guess is that the market reaction would not be a negative one.

Of course, any such action would also require the U.S. to also have a long-term plan to tackle its own deficit, which is where this idea truly hits a snag. In the end, it’s not about numbers, but about the inability of our politicians to compromise on tax increases and entitlement cuts that prevents the U.S. from helping to avert a potentially disastrous economic crisis. This is a country that was built on "the Great Compromise," yet Democrats and Republicans could not strike a bargain to trim $1.2 trillion off of our future deficit. How on Earth could they find the large sum of savings required to possibly assist Europe? Sadly, it is most likely that they won’t until it is too late.

Photo Credit: XiXiDu