President Barack Obama held a summit with European Union officials at the White House Monday, calling for action on the eurozone debt crisis before it spirals out of control and causes another worldwide economic recession.
The President met with European Council President Herman Van Rompuy, European Commission President Jose Manuel Barroso, High Representative Catherine Ashton and other officials. U.S. Secretary of State Hillary Clinton and Treasury Secretary Timothy Geithner also were in attendance. President Obama has been in close contact with European leaders over the past several months, pressuring them to take action on the crisis.
According to White House spokesman Jay Carney, the president believes that “Europe needs to take decisive action, conclusive action, and it has the capacity to do so.”
Earlier this month, Fitch reported that U.S. banks have direct exposures to stressed European markets (Greece, Ireland, Italy, Portugal and Spain), and added that further contagion puts them at serious risk. The rating agency said that unless the debt crisis is resolved, the credit outlook for the U.S. banking industry is in jeopardy. The current outlook is stable, but “risks of a negative shock” are increasing and could change this projection. However, Fitch noted that U.S. banks have reduced their exposures to stressed European markets considerably.
Moody’s issued its own report Monday, stating that the longer the crisis is allowed to go, the higher the probability of multiple sovereign defaults. If sovereign defaults occur, there also is the chance that those countries will leave the euro area. “Moody’s believes that any multiple-exit scenario—in other words, a fragmentation of the euro—would have negative repercussions for the credit standing of all euro area and EU sovereigns,” the rating agency said.
While Moody’s maintains its central scenario that the euro area will be preserved without widespread defaults, the rating agency sees a resolution only surfacing after a series of shocks that could lead to countries losing market funding and receiving credit downgrades. The rating agency also noted that probability for negative scenarios has increased in recent weeks.
“Adding to all these pressures is the fact we are heading into year-end when liquidity and window-dressing always become key issues,” said Brian Kalish, AFP's Director of Finance Practice. “We are already experiencing a tightening of credit in the short-end of the yield curve.”
The Organization for Economic Cooperation and Development (OECD) also voiced its support for swift action on the debt crisis in its latest Economic Outlook, released Monday.
With Europe slipping into a recession, the United States experiencing only a modest recovery, and Japan seeing a minor surge due to reconstruction efforts that will eventually taper off, the OECD sees the potential for economic disruption on a massive scale. Pressures on bank funding and balance sheets increase the chances of another credit crunch. Additionally, in the U.S., there is the distinct possibility that no action will be agreed upon to counter fiscal tightening, which could tip the economy into a recession that monetary policy would have little ability to correct.
The OECD’s baseline scenario, which assumes that policymakers take action to avoid sovereign defaults, credit contraction, bank failures and excessive fiscal tightening, sees worldwide GDP dropping to 1.6 percent in 2012 from 1.9 percent this year, but recovering to 2.3 percent by 2013. U.S. growth is projected to rise from 1.7 percent this year to 2.0 percent next year and 2.5 percent in 2013. The outlook is not so optimistic for unemployment, which is projected to stay around eight percent for the next two years.
The OECD also offers two alternative scenarios for the near future. In the downside scenario, spending cuts in the U.S., coupled with an escalation of the debt crisis in Europe, results in a two percent drop in GDP in the U.S., the eurozone and Japan in 2012, and even further in 2013. China’s economy also would likely suffer a hit. However, if the European debt crisis is resolved, the OECD sees an upside scenario in which the U.S., Europe, Japan and China could see higher growth than expected.
“If there is a sovereign debt default in the euro area, the contagion spreads,” said Pier Carlo Padoan, chief economist at OECD. “And if there is no effective policy response, both at the country level and at the European level, we might have a very serious downside scenario with prolonged recession and rising unemployment. If, however, policy response is effective, broad and sustained, we might turn the downside scenario into an upside scenario in Europe and elsewhere, where growth becomes strong, confidence is restored, and unemployment starts falling.”