March 24, 2013
We've been here before.
It's a weekend reminiscent of the jittery past year. Investors are on edge as they gaze at political leaders across the Atlantic for assurances they will extend a last-minute bailout to a struggling European country and insulate the global economy from the shock of a collapse.
This time, the fear is not a financial meltdown of Greece, Spain or Italy, but rather the small country of Cyprus. And the question is whether Cyprus will be willing to bend to painful European demands so it can qualify for a bailout from other eurozone members.
Given Cyprus' size, the worst of banking disasters, alone, wouldn't be a major world event. But with the other European countries still troubled and financial systems globally linked, investors realize that disease in Cyprus' financial system could infect other areas. No country is an island anymore, not even Cyprus. So investors will be on alert until they see whether Cyprus' government and Europe's leaders agree on an aid package by Monday's deadline.
Last week, speculation began anew about Cyprus potentially leaving the eurozone and disrupting the economy of Europe. Such a shock could disrupt corporate profits worldwide, including those of American companies. Large U.S. corporations derive about a third of their sales in foreign markets, with half in Europe.
Reports by Caterpillar and FedEx gave investors pause last week as the companies noted slow overseas markets. Caterpillar, which makes construction and mining equipment, said European sales dropped 9 percent during the last three months. The Asia-Pacific region, which depends on exports to Europe, was an even worse market for Caterpillar. Those sales plunged 26 percent.
The fear of an imploding eurozone — which was prevalent last year — had faded from investor consciousness this year. Investors were disarmed last summer when Mario Draghi, leader of the European Central Bank, promised "to do whatever it takes" to keep the eurozone from going through the shock of a breakup.
But the pledge didn't wipe away banking problems or recession in Europe, where countries like Greece and Spain have unemployment of more than 25 percent. And in Cyprus, mounting bad loans have left banks in danger of collapse.
"The land mines we knew were out there keep popping up," said Joseph Lupton, an economist at JPMorgan.
The issues are part financial and part political. No bailout comes without conditions, and the conditions that were being demanded in exchange for bailing out Cyprus set off a run on the bank.
Under consideration was a plan to charge people and businesses 6.75 percent to 9.9 percent for having money in the bank. The reaction was so strong, a fee on small savings reportedly has been removed from consideration while a massive bank restructuring plan is being negotiated.
Reports that negotiations were progressing Friday calmed U.S. markets. The Dow Jones industrial average climbed 90 points after losing 90 points the previous day. The Stoxx 600 index of European stocks didn't fare as well. It lost 1.14 percent for the week, while the Dow lost 0.01 percent.
After being battered by angst over Europe last spring, U.S. investors have become somewhat numb. They are used to bitter battles between Europeans over bailouts that end in last-minute agreements and dispel fears of financial meltdowns and a eurozone breakup.
Yet Jurgen Michels, a European strategist for Citigroup, said Friday, "Developments of the last few days have increased in our view the chances of Cyprus leaving the European Monetary Union and maybe even the European Union."
If that were to happen, he thinks it would "likely lead to a new escalation of the crisis and probably to increased pressures on Greece," but he doesn't think other financially distressed countries would follow, despite conjecture of that nature.
If he's correct, that would mean a major concern — a massive breakup of euro-using nations — would not happen. Yet if people and companies worry about the possibility of countries leaving the euro, they may withdraw money from banks in countries on the periphery of Europe, said Michels, and that could destabilize conditions further.
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