Are U.S. Fortunes Really Tied to EU Trouble?

If the stock market is any guide, the fortunes of U.S. companies and the American economy are not linked to the problems in the EU at all. That would mean that U.S. banks have little exposure to sovereign and EU financial firm debt, even through some analysts are worried about the trading links banks on both sides of the Atlantic have with one another. And it means the corporate profits of American exporters will not be hurt by a deep EU region recession. However, the optimism about those things has little foundation. It is a mystery why the American stock markets have moved so high so quickly.

The S&P 500 has risen 8% in the past month. The rise is even sharper over the past three weeks. This improvement comes despite a period in which it seemed Greece might default and it was unclear whether EU officials could get their house in order. Efforts to halt the great trouble in Europe have  been insufficient to prevent an event that could pull some of the region’s banks under. A restructuring of Greece would at least require them to raise tens of billion of dollars in capital to remain viable.

The stock market gives the impression that America has become increasingly isolated from the problems in Europe over the past month. In addition, the rise signals optimism about America’s economic prospects. It is hard to prove how those prospects can be terribly good, especially for large multinationals that rely on the EU for as much as a third of their sales. Perhaps the markets believe that EU sales will be offset by activity in Asia. But Asian sales are already good for most of these multinationals. Why would they improve enough to overcome sharp drops of revenue from Europe?

The impression that America can be decoupled from Europe is like the notion that China could be decoupled from the West. This theory was popular before and during the early parts of the recession. That did not keep the People’s Republic from instituting a $585 billion stimulus plan in 2008 and making efforts to keep interest rates low. China’s GDP growth would have sunk more than it did, if it were not for these efforts.

The U.S. stock market has sent a false signal. It has risen through a series of crises and bad starts to repair the financial house of the EU. Leaders in that region still struggle with where the money will come from for a bailout. Banks that would have to be part of any package have balked at further write-offs. The problems in the EU remain far from a solution. The American stock markets have gotten ahead of themselves.

Douglas A. McIntyre