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Greek Debt, Global Warning

By Joel Dresang

Beyond playful headlines alluding to ancient mythology or “My Big Fat Greek Wedding,” the fiscal problems of far-off lands are poignant reminders of the interconnectedness of investment risks in a global economy.

Addressing the Eau Claire Area Chamber of Commerce last month, Narayana Kocherlakota, president of the Federal Reserve Bank of Minneapolis, cited Europe’s finances as a key factor weighing on expectations for U.S. economic growth.

Repercussions from fiscal instability in Greece and other areas could restrain the comeback in Europe for the next year or two, Kocherlakota said. Concerns are such that the Federal Reserve recently created temporary swap lines to lend money for up to three months to central banks in other parts of the world.

“We didn’t do so out of any special love for Europe — we’re American policymakers, and we make decisions to keep the American economy strong,” Kocherlakota  told the business leaders in Altoona, Wis.  “But the liquidity problems in European markets were showing signs of creating dangerous illiquidity problems in our own country’s financial markets. We knew that the swap lines would be a useful step in heading off that process.”

In other words, financial support isn’t just about bailing out Greece.  French and German banks, for instance, have significant stakes in fellow European Union countries. U.S. financial institutions, in turn, have investments in French and German banks.  

In fact, according to data from the Bank for International Settlements, private U.S.-based lenders hold nearly $360 billion in debts from banks in Greece, Spain, Portugal, Ireland and Italy.

The timing isn’t good for the nascent global economic recovery, says Bob Landaas, president of Landaas & Company.

“The bailout in Europe has increased bank lending rates in Europe at a time when many countries are struggling to recover from the financial crisis,” Bob says. “Short-term, the investment implications would be for investors to reduce their exposure to Europe.”

Indeed, shaken confidence has sent the euro to a four-year low against the U.S. dollar recently, which could put a drag on the U.S. recovery, Bob says.

“It’s clear that the financial crisis unfolding in Europe will continue to strengthen the U.S. dollar, which will result in the slight reduction in growth in the United States,” Bob says. He explains that the strong dollar makes U.S. exports more expensive, reducing the international competitiveness of U.S. corporations.

That’s not to say the U.S. recovery won’t continue.

“We remain guardedly optimistic about the prospects for U.S. stocks,” Bob says, “as earnings projections for the next two years suggest that stock prices in the United States are undervalued.”

Meantime, expect concerns over sovereign debt to continue riling U.S. financial markets.

“Events in Europe are providing the clearest demonstration of the increased attention being paid by markets to differences in underlying fiscal conditions across countries,” the International Monetary Fund said in a report last month.

The IMF went on to warn that, left unchecked, “high levels of public indebtedness could weigh on economic growth for years.”

Joel Dresang is vice president of communications at Landaas & Company.

initially posted May 20, 2010

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