What do Greece, Portugal, and Spain have to do with my Financial Future?
Places many of us thought of as wonderful vacation or holiday locations have recently become the focus of international financial markets. Each of these countries, Greece, Portugal, and Spain (there will be others in the coming months), have ballooning annual budget deficits which in turn have increased their national debts. As Americans we are used to this scenario, especially in recent months as we realize the impact of multiple bail outs and government investments in private industry, and the subsequent expansion of our debt to over $12 trillion (TRILLION).
While as Americans we may be used to it, there is no question that the practice of increasing governmental spending and ballooning federal deficits has negatively impacted our purchasing power as well as the status of America as a financial power. However, as the old saying goes, misery loves company. Our friends across the Atlantic now known as the European Union (EU) have run into the same bad habits. Their problems are exacerbated by the fact that each of their member countries still issues sovereign debt, that is, debt backed by the individual country similar to the way the US issues debt. This debt is all issued in one common currency, the Euro.
The nature and structure of the EU was designed to enhance trade, and therefore to increase the Gross Domestic Product (GDPs) of each member country as well as to increase each countrys standard of living. On the surface, these are logical and practical goals. The implementation of their plan involved the issuance and acceptance of the common currency, as mentioned above. The common currency was initiated to insure that trade was facilitated through a pricing mechanism that was not subjected to ongoing value fluctuations when adjusted for the value of each member countrys currency; formerly the French Franc, the Italian Lire, the Greek Drachma, etc.
As EU member countries each create separate budgets and different government support programs, the deficits piling up are far beyond any earlier estimates, as a result of the global financial crisis, and now the EU as a whole has to anti up to support those member countries. As an analogy, think of the EU as the USA. We have a union comprised of 50 states, a national budget, individual state budgets, and a common currency, the dollar. We are currently experiencing financial crises in many of the 50 states. The federal government has been asked to bail out many of the states through grants, loans, and other federal programs. All of this has contributed to the weakening of the US financial system as a whole.
The same effect is taking place in the EU. The weakening of individual member countries like Greece has caused the need for other member countries to help bail out the Greek Banking system and the governmental agencies. This need has spilled over into Spain and Portugal and many expect other smaller member countries will experience the same problems in the months ahead. This has put immense pressure on the Euro currency. The international markets have been selling Euro based investments and switching to US dollar or Japanese Yen based investments, as well as to Chinese and other Asian market investments. As the value of the dollar has risen relative to the Euro, the purchasing power of EU countries for US goods and services has declined and US exports will suffer as a result. Diminished exports from the US just fuel the economic decline by reducing GDP, exacting more job cuts from an already shaky job market, and causing our economic recovery to stall or at least slow. It has not taken much time to create this entire scenario in the international markets; however, it could take a long time to clean it up and repair it.
As the EU member countries began to commit to provide loans and grants to Greece this past week, Greek citizens and workers have taken to the streets protesting the anticipated cuts in government services that were a prerequisite to the EU bail out. Funds promised by the International Monetary Fund (IMF) and World Bank (WB), as well as funds pledged by fellow EU member countries each had conditions attached. The most noteworthy condition is that Greece clean up its act regarding the many unfunded social programs and policies. Hopefully the protests and ill feelings will be short lived as Greece has absolutely no alternative at this time.
As we have stated many times in this column, we are all part of a well integrated international financial community, for better or for worse. As things began unraveling in the EU, we started to feel the impact here in the US; it will continue to work this way for as far as I can see into the future. Again, it is important to understand these interrelationships as it helps us to make decisions that will best protect and enhance our own capital. Many financial market professionals who anticipated that these problems with Greece were not going to be resolved overnight have taken defensive action with their investments in recent weeks. They will watch the situation and when comfortable that the worst is over and that the root problems are being addressed, they will again shift their investments accordingly. It is imperative that we watch these and similar developments in order to best provide for our own financial futures.
©Patrick J. Catania 2010
The views and opinions expressed herein are solely those of the author and do not necessarily reflect those of Baxter Credit Union, its Board of Directors, or its employees. The author is responsible for the content. Readers should consult with, and seek professional advice from their own attorneys, accountants, and financial advisors with respect to their individual financial needs and circumstances.
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