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A euro zone breakup: Will it wreck the global economy?

If you’re worried about the sturm und drang happening this week in Europe, you are not alone. The European Union, after all, is the world’s largest economic bloc.

BOSTON — The headlines from around the world are increasingly dire.

“The euro zone really has only days to avoid collapse,” screams Wolfgang Munchau in the Financial Times.

“Thinking the unthinkable on a euro break-up,” moans his FT colleague Gavyn Davies.

“Is this really the end?” wonders the Economist in its latest cover story, which comes with a scary illustration of a euro coin plunging earthward like a dying, flaming comet.

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Even Poland, for crying out loud, is begging Germany to save Europe

“What, as Poland’s foreign minister, do I regard as the biggest threat to the security and prosperity of Poland?” asked Radoslaw Sikorski in a speech Monday in Berlin.

“It’s not terrorism, and it’s certainly not German tanks. The biggest threat to the security of Poland would be the collapse of the euro zone,” the foreign minister said.

So if you’re worried about the sturm und drang happening this week in Europe, you are not alone.

The European Union, after all, is the world’s largest economic bloc.

This is very serious stuff.

But what would happen to the global economy if the unthinkable, in fact, happened?

What would happen, in other words, if German Chancellor Angela Merkel listened to many of her unhappy people, threw up her hands in defeat and ended Europe’s gigantic economic, political and cultural experiment?

“If it happens in a chaotic manner and there are unplanned defaults and you have a collapse of the banking system, then the effect on the global economy would be huge,” said Mark Weisbrot, co-director of the Center for Economic Policy and Research in Washington, D.C.

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He argues the damage could be something on the order of what happened after the collapse of Lehman Brothers in 2008, an event that precipitated the Great Recession.

“If it’s a more controlled agreement, then it wouldn’t have as much of an impact,” Weisbrot adds.

The cost of euro failure is also the question UBS analyzed back in September with a research report titled: “Euro break-up — the consequences.”

As UBS points out, a euro breakup would not a happy outcome for anyone — Germans, Greeks, Italians, Spaniards, or yes, Americans, Chinese, Brazilians and just about everyone else tied to the global economy.

According to UBS, if a “weak” country like Greece left the euro, the economic costs would be severe.

For starters, imagine sovereign default, widespread corporate defaults, a banking crisis and big international trade problems. Devaluation of a post-euro currency, UBS argues, would not offer “much assistance.”

By its estimates, leaving the euro would cost each “weak country” citizen between 9,500 to 11,500 euros ($12,650 to $15,300), or about 40 to 50 percent of that country’s GDP. And that’s just in the first year. 

If a stronger country like Germany were to leave, UBS says the cost for every German adult and child would range from 6,000 to 8,000 euros ($8,000 to $10,600), or about 20 to 25 percent of its annual GDP.

What about the effects outside of Europe? They, too, could be severe.

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The most immediate global risk is another big credit squeeze, as debt-laden banks in Europe and elsewhere stop lending money to businesses and people.

We’re already seeing the beginning of this.

“If your largest banks aren’t able to provide credit, it hinders economic development and contributes to a recession,” Alex Roever, a fixed-income research analyst at JPMorgan Chase, told the New York Times in this sharp analysis of the spreading global credit freeze.

More broadly speaking, the U.S. economy may suffer only moderate damage, given that consumer spending, rather than international trade, is its biggest driver. Exports to Europe make up only about 2 percent of total GDP. 

But U.S. states with stronger economic connections to Europe — think, for example, Utah’s gold mines and South Carolina’s auto industry — would be more adversely affected if the euro zone tanks.

(For a darker view on what could happen in the U.S., check out this lecture by Princeton economics professor Hyun Song Shin, with an accompanying explanation from Slate’s Matthew Yglesias). 

China, the world’s second-largest economy after the U.S., is in a more precarious position.

Europe last year overtook the U.S. as China’s biggest trading partner. Chinese exports to Europe today account for about 6 percent of the country’s GDP.

Meanwhile, China bought $50 billion to $60 billion worth of euro-denominated holdings in the first half of 2011, according to the New York Times. So any serious economic downturn in Europe is likely to hit China where it hurts most.

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But that’s not all.

Brazil, the largest economy in Latin America, is also heavily exposed to Europe. The EU is the country’s top trading partner. More than one-fifth of Brazil’s total trade is with the now-teetering continent.

So as Angela Merkel and her French, Dutch, Italian, Spanish, Greek and other European partners figure out their next steps, it’s safe to say that the euro isn’t just a European problem.

It’s a planet Earth problem.

Thomas Mucha writes for GlobalPost.