European turmoil shows how small a world it is
I closed the last column questioning how Germany would react to the new government in Greece. Although the situation has stabilized, how much latitude the Greeks are given largely remains up to Germany. In fact, the fate of the European Union itself rests with the Germans.Prevailing wisdom is that a solution will be found, mostly because the alternative would be far worse. But that prevailing wisdom assumes rational fiscal conduct, and that might be a leap given the complexities of the political elements.In a nutshell, the German people are loath to assist their neighbors to the south. The general belief is that the southern nations are — how can I put this diplomatically? — lazy. They are also viewed as having spent foolishly without having a viable strategy to foster economic growth.Since Mother Teresa isn’t running Germany, you can understand why rescuing these nations poses a political problem. It’s not unlike our bank bailout, but with the added challenge of dealing with centuries of history and cultural differences. German Chancellor Angela Merkel must walk a tightrope to keep the electorate placated while developing a workable solution for the indebted nations.The most recent European summit was encouraging. And by that I mean that various solutions of substance were discussed. It also appears that Germany may soften its stance over some of the crucial roadblocks. The equity markets rallied worldwide following the summit. However, for the markets to continue to rally, the EU must follow through with substantive actions.Why we care is simple: Collectively, Europe is a larger global economic force than the United States. If economic turmoil persists in Europe it will hurt everyone. And if the worst-case scenario were to occur – the breakup of the EU and the demise of the euro – it would get very ugly.Although they don’t outweigh the potential negatives, there are some positives that have or will result. The most immediate positive is the price of oil, which has dropped over 20 percent. This has provided some welcome relief to average consumers. Nonetheless, the reason for the decline — reduced demand resulting from a global economic slowdown — is not something that will remain a positive in the long term.China remains crucialNot that I’m suggesting an EU breakup would be a good thing, but long term it might benefit the U.S. economy. If Europe went back to being separate nations, they would be collectively less competitive. Further, interim turmoil could cause some business to migrate to U.S. companies.China remains crucial, and the speculation persists on whether it can engineer a soft landing. I heard an interesting comment regarding electrical use in China as a barometer of economic growth, the theory being that economic growth is typically lower than the growth in power consumption. The National Energy Agency reported that in May China’s electrical use grew at 3.7 percent year-over-year. If this theory is correct, it does not bode well.Given this, expect sub-2 percent growth for the next couple of quarters. Also expect an increasing number of earnings warnings. Consequently, the stock market will continue to experience downward pressure through the election.Post-election is impossible to predict. It will depend on the election’s outcome and how the lame duck Congress deals with the looming fiscal cliff. Europe must also have made real progress by that time.My best guess is that we’ll see a re-acceleration in economic growth and in the equity markets toward the end of the year. I’m hopeful that both Europe and Washington will at least temporarily get their acts together, bringing promise to 2013.Author, professor, entrepreneur, radio and TV commentator, Tony Paradiso of Wilton is a marketing, management and macroeconomic expert. His website is tonyparadiso.com.