Cover Story: The Atlantic Century?
The Atlantic Century?
Once again, the U.S. and Europe are the twin drivers of the world economy
The global economy wasn't supposed to look like this. After the Berlin Wall crumbled and governments throughout the world cast their lots with capitalism, it seemed logical to envision a single, seamless system. Money, goods, and eventually people would move from market to market, unimpeded by ideology or protectionist barriers. Western wealth, seeking high returns in developing nations, would flow south and east, enriching recipient industries and consumers until a rising tide of growth lifted everyone into better living standards.
Instead, the new century will begin with an eerily familiar alignment. Once again, North America and Europe are the global anchors of prosperity and stability, while the rest of the world struggles in economic limbo. Far from counting on hot emerging markets to drive global growth, companies and investors are focused on the Atlantic zone. "The big growth engines are the U.S. and Europe," says Michael C. Hawley, president of Boston-based Gillette Co., which is spending $750 million to launch its pricey Mach III razor in the two regions.
Just three years ago, such optimism would have seemed misplaced. After all, the U.S. had been chugging through a six-year expansion. Surely, it had to run out of steam, most economists agreed. Even if growth continued, it could hardly be better than tepid, since the affluent American market seemed saturated with goods and services. And Europe? Pundits wrote it off as an also-ran in the race for global competitiveness, a continent hopelessly tangled in obsolete regulations and stubbornly refusing to change.
True, 1999 could bring a slowdown. But both regions have surprised us. The U.S., shattering traditional economic assumptions, may have created a new model for growth. Successive technology breakthroughs fuel productivity gains that have been running 2% a year since 1995--nearly twice the level of the previous two decades. Continued low-inflation, low-unemployment growth is defying the classic business cycle. Meanwhile, demographics have changed the face of finance. The baby boom generation saves for retirement by socking billions of dollars into stocks every month automatically--perhaps one reason for the market's long-term buoyancy. And boomers' insatiable appetite for investment advice has led to an explosion of lucrative financial services from banks, information companies, and the Internet.
Across the sea, Europe is going through many of the same changes. "The New Economy effect is still very much in the future," says University of Maastricht Professor Luc L. Soete. "But in many parts of Europe, it is starting to take form." Proof is in the Continent's two-tier economy: Manufacturers are in recession, while software and telecom companies are pumping out jobs.
Indeed, Europe increasingly mirrors its transatlantic trading partner. At $6.5 trillion, the euro zone's economy approaches the U.S.'s $8 trillion. The two continents' share of world trade is almost the same, about 18%, and they both export some 11% of GDP. Thanks to the euro, even their stock markets could soon be comparable. Barring any profit shocks, Europe's 9,100 listed companies should gradually grow in value close to that of America's 9,900.
Europe's new single currency will bring the continents even closer. By consolidating 11 different markets, the euro will create a source of capital far bigger than the sum of its parts, because it will be more liquid. Already, this market is taking shape along U.S. lines. That's partly because, like Americans, Europeans face an income crunch at retirement unless they begin shifting their savings into stocks and corporate bonds. The euro zone's fast-growing capital markets represent a fresh source of funds for U.S. and European companies alike. And as countries around the world stock up on euros to cover trade with the euro zone, the currency could eventually share global reserve-currency status with the dollar.
On a less lofty but equally important level, transatlantic business values have more in common than ever. Executives share a focus on shareholder returns and an openness to ideas invented half a world away. Gradually, deregulation and more supply-side economics could solve Europe's remaining nagging unemployment problem. As the Continent gains in competitiveness and as its capital markets evolve, "you will have two virtually identical blocs," says Jan Svejnar, economics professor and head of the William Davidson Institute, a think tank in Ann Arbor, Mich. "Technologically, neither will be ahead, and institutionally they will be similar."
The upshot is that for now, U.S. and European companies no longer need look to the developing world for growth. For example, thanks to deregulation on both continents, a phone company formerly dependent on a single business repertoire can now branch out into cable and Internet services. And its once-regional customer base is the size of the entire transatlantic zone. "When we talk about globalization, we used to talk about emerging markets," says McKinsey & Co. global strategy expert Lowell L. Bryan. "But the most important integration now is occurring between Europe and America."
Already, gigantic mergers, from DaimlerChrysler to Deutsche Bank-Bankers Trust, signal that the biggest companies on both sides of the Atlantic want to exploit the two continents' growing similarities. Since size and market reach are more important than ever--especially in a Europe whose national boundaries are gradually being razed--many more transatlantic deals are likely to follow. Mergers and acquisitions between the two continents totaled $256.5 billion in 1998, up from $69.4 billion in 1995.LONG-TERM FOCUS. U.S. and European management styles are gradually converging, too. Multilingual executives believe in performance-based compensation and look for talent without regard to nationality. And the euro zone's monetary guardian, the new European Central Bank, seems committed to emulating the U.S. Federal Reserve, making steady, low-inflation growth its principal target. For the foreseeable future, investors on both sides of the Atlantic are likely to shun short-term high returns in emerging countries in favor of lower but less volatile rewards from each other's capital markets.
While North America and Europe increasingly look like twin pillars of global growth, the former stars of the world economy are in a tailspin. In Asia, the forces of economic integration are crumbling. The recession and financial debacle in Japan has deprived the region of its main growth engine. Self-obsessed China is turning more protectionist. Grand initiatives of the early 1990s to dismantle regional barriers to trade, financial services, and telecommunications have fallen into disarray. In many industries, companies still must approach the region country by country, each with its own rules, currency regimes, and bureaucracies. That makes it tough to achieve critical mass.
Thanks to the Asian meltdown of 1997, Russia's devaluation and default last year, and a potential Latin American crisis in 1999, confidence in emerging markets has dissolved. At least in the midterm, these countries will pay dearly for every penny of Western capital as they try to repair their shattered economies. Private credit to emerging markets dwindled to $39 billion last year, from $196 billion in 1996.
The new divide between the economic haves and have-nots could be self-perpetuating. For example, the U.S. has benefited from the flood of cheap imports, which has allowed the Federal Reserve to keep interest rates low. But developing nations get much less for the commodities they produce, be they oil, steel, or computer memory chips. And because their currencies have plunged in value, countries such as Indonesia, Thailand, and Brazil have much less buying power for machinery, raw materials, and fuel. Without such supplies, they can't get exports growing again.
Yet despite the reversal of the developing nations' fortunes, many opinion leaders reject the idea that the U.S. and Europe should be regarded as role models. "The emerging markets accepted unilateral imposition of dogmatic formulas because they feared a negative reaction from the market," says Eisuke Sakakibara, Japan's powerful vice-minister of finance for international affairs. But now, he says, the era of Western "market fundamentalism" is fading as a global ideology: "Global capitalism has turned inherently unstable."
Deprived of the hot Western money that fed their growth in the early 1990s, many developing markets are back to square one. But the tough times have brought valuable lessons. Perhaps the most fundamental is that capitalism isn't born fully formed. Throwing capital at an economy not yet equipped to handle cyclical downturns, inflation, and currency swings is unlikely to yield long-term gains.
Some government leaders, executives, and investors are calling for institutional and regulatory reforms in emerging markets. It could be years before these structural changes take root. But if nothing else, the cut-off of easy money from the West could ensure that Asia, Russia, and Latin America don't make the same mistakes again. Nor are they likely simply to turn back into cheap-export machines. More probable is a gradual transition--no doubt with plenty of government intervention along the way--to a practice of capitalism that meshes with the trans-atlantic model but holds less built-in financial risk.
In fact, the new world order could introduce a set of global risks quite different from the emerging nations' boom-busts. Harmonious as the U.S. and European economies may be, a downturn in world growth could send the two continents into serious rivalry. Even now, Brussels and Washington are battling over banana and meat imports, with the U.S. threatening sanctions. Competitive devaluations between the dollar and the euro are not out of the question, and trade barriers and currency wars could be even more tempting. Says the Davidson Institute's Svejnar: "Since NAFTA and the euro zone are large blocs, it's easier for them to be self-sufficient."UNITY GAP. Finally, it remains to be seen whether the U.S. can gracefully cede the geopolitical hegemony it has enjoyed for most of this century. America has traditionally shouldered much of the burden when a global crisis erupts, from wars to financial default. As the euro zone matures into a single, massive economy, its leaders could be called on more frequently to pull their weight in times of trouble. "But as long as Europe lacks political unity," says Andre Levy-Lang, chairman of French investment bank Paribas, "it's unlikely to assume a caretaker role, because countries still have conflicting interests."
The greatest danger to the transatlantic alliance, in fact, is an economic shock that somehow hits one bloc harder than the other. But as long as the two remain oases of growth in a turbulent world, they are likely to be more allies than rivals. Europeans and Americans may never define capitalism in exactly the same way. But for now, their definitions are close enough to ensure a fertile economic partnership for years to come.By Joan Warner, with Pete Engardio in New York and Thane Peterson in FrankfurtReturn to top