Thursday, October 11, 2012
Rebecca M. Nelson, Coordinator
Analyst in International Trade and Finance
Analyst in European Affairs
Derek E. Mix
Analyst in European Affairs
Martin A. Weiss
Specialist in International Trade and Finance
What started as a debt crisis in Greece in late 2009 has evolved into a broader economic and political crisis in the Eurozone and European Union (EU). The Eurozone faces four major, and related, economic challenges: (1) high debt levels and public deficits in some Eurozone countries; (2) weaknesses in the European banking system; (3) economic recession and high unemployment in some Eurozone countries; and (4) persistent trade imbalances within the Eurozone. Additionally, the Eurozone is facing a political crisis. Disagreements among key policymakers over the appropriate crisis response, and a complex EU policy-making process are seen as having exacerbated anxiety in markets. Governments in several European countries have fallen as a direct or indirect result of the crisis.
Recent Developments & Outlook
Market pressure against several Eurozone countries increased during the summer of 2012, when there was concern that the crisis was spreading from Greece, Ireland, and Portugal, three relatively small economies, to Italy and Spain, the third- and fourth-largest economies in the Eurozone. Several developments in August and September have calmed markets, including: an announcement by the European Central Bank (ECB) for a new bond-buying program to hold down government bond interest rates; the September 12 German constitutional court ruling in favor of the permanent European rescue fund, with certain conditions; pro-Europe parties doing well in the Dutch elections; and the European Commission unveiling a proposal for a single banking supervisor.
Questions remain, however. ECB bond purchases are conditional on governments seeking programs from the European rescue funds, and implementing the economic reforms attached to that assistance. To date, neither Spain nor Italy has requested such a program. Additionally, pressure continues to build in Greece, with the Greek prime minister appealing to German and French leaders for more time to implement budget cuts and economic reforms. Some economists believe that Greece could require additional aid to avoid defaulting on its debt. Debates about a European banking union are also creating tensions among some European governments.
More broadly, many of the fundamental challenges in the Eurozone remain, including lack of economic growth, high unemployment, and internal trade imbalances; and many still question the Eurozone’s future. More economists and policymakers are openly questioning whether Greece will remain in the currency union, and asking what other countries may follow if Greece exits. Others are optimistic that ultimately European leaders and institutions will do whatever is necessary to keep the Eurozone intact, and that the EU could emerge from the crisis stronger and more integrated.
Issues for Congress
Impact on the U.S. Economy: The United States has strong economic ties to Europe, and many analysts view the Eurozone crisis as the biggest potential threat to the U.S. economic recovery. U.S. Treasury officials have emphasized that U.S. exposure to the Eurozone countries under the most market pressure is small but that U.S. exposure to Europe as a whole is significant. Recently, the euro has fallen against the dollar; a weaker euro against the U.S. dollar could cause the U.S. trade deficit with the EU to widen. Uncertainty in the Eurozone is creating a “flight to safety,” causing U.S. Treasury yields to fall, and volatility in the U.S. stock market.
IMF Involvement: In response to the crisis, some countries have pledged additional funds to the International Monetary Fund (IMF). The United States has not pledged new funds to the IMF as part of this initiative. Members of Congress may want to consider how to guarantee that the IMF has the resources it needs to ensure international economic stability while also exercising oversight over the exposure of the IMF to the Eurozone.
U.S.-European Cooperation: The United States looks to Europe for partnership in addressing a range of global challenges. Some analysts and policymakers express concern that the crisis could keep much of the EU’s focus turned inward and exacerbate a long-standing downward trend in European defense spending.
Date of Report: September 26, 2012
Number of Pages: 25
Order Number: R42377
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