Roubini’s Warning Reminds Risks Still in Surplus: William Pesek

You don’t tend to make money betting against Australia. Until now.

This week, the government pledged to bring the budget into surplus in 2012-13, three years ahead of schedule. On May 11, Treasurer Wayne Swan said Australia is seeking a “solid buffer” against a European debt crisis that threatens to scuttle the global recovery.

Good luck with that. Europe’s crisis is threatening Australia’s fiscal health. If you thought the collapse of Lehman Brothers Holdings Inc. shook markets, just wait until Greece or other euro-area “laggards,” as economist Nouriel Roubini calls them, pull out of the single currency.

Australia’s aim to bring its budget into surplus may fizzle as one of three unexpected consequences of Europe’s turmoil in the Asia-Pacific region. The other two: a marked Chinese slowdown and the euro area turning Japanese.

Asia has been avoiding the fallout from Greece. Growth is robust, Asian banks are in decent shape and governments have more latitude to boost spending. Europe’s troubles might still morph into a second leg of the global crisis that Lehman’s demise helped trigger.

It’s one thing for Asia to stand its ground when the U.S. is reeling. It’s quite another to repeat that feat when a second economic region of comparable size plunges, especially when you consider how a prolonged European malaise would affect China.

Roubini’s Musings

Unimpressed by a European Union-led euro package totaling almost $1 trillion, Roubini of New York University says Greece and other euro weak links may bolt. As markets tank and confidence fizzles, Europe risks a double-dip recession.

That may imperil China’s outlook, given the export-driven economy’s heavy reliance on European consumers to fill the void left by the U.S. Our world economy is so interconnected that Europe’s plight will boomerang back on China and the rest of Asia. Companies can expect less demand from Europe, while the region will buy less from China.

This is clearly Asia’s time, as evidenced by buoyant stock markets even amid global gloom. A stagnant euro area will hurt, though, with the U.S. underperforming. While China’s 10 percent- plus gross-domestic-product growth is helping Asia, that dynamic is now in jeopardy.

“China is built for exports,” says Nicholas Smith, director of equity research at MF Global FXA Securities Ltd. in Tokyo. “Consumption, at a third of GDP, is way too small to cover if exports wobble. No major nation in modern history has had a lower consumption ratio.”

Question Marks

Much of what China sells to its neighbors in Asia ends up getting processed and sold on to Europe. So, another big question mark is developing over China’s outlook -- on top of the economy’s asset bubbles.

Another big risk is that Europe will face a Japan-like “lost decade.”

One could easily be in the cards. Like Japan, Europe seems mired in an old and storied civilization that has given way to a sclerotic bureaucracy, mountains of debt and a growth-killing unwillingness to make hard decisions. It’s wedded to an outdated image of its pivotal role in the global economy and doing little to maintain it.

Until recently, the concern was that the U.S. would experience “Japan disease.” The U.S. isn’t booming, but then neither is deflation taking hold.

Yields on Rise

Europe’s challenge is to avoid turning Japanese. While massive debts are one problem, monetary policy is a more immediate one. The European Central Bank has very little latitude to cut interest rates at a time when some euro-area bond yields are on the rise.

It’s not inflation that has investors demanding higher yields, but sovereign-debt risks. It doesn’t matter what’s fueling the disconnect between short-term and long-term borrowing costs. The end result is hobbled monetary policy.

European debt levels are already very high and borrowing costs are historically low. A decade ago, Bundesbank officials would have laughed at the idea that the ECB would ever cut interest rates to 1 percent.

Pledging a huge pile of money to defend the single-currency project seems rather Japanese. The effort’s vagueness is already engendering doubt. One is that Germany can hang on to its AAA credit rating. Germany is a top borrower, yet not so when it’s shackled with the obligations of Greece, Portugal, Spain and other weak euro members.

Japan’s Playbook

The ECB says it will counter “severe tensions” in “certain” markets by purchasing government and private debt. It’s as if the guardian of the euro is taking a page from the Bank of Japan’s playbook.

Japan’s debt dynamic is worsening before our eyes. It’s so over its head in debt that Standard & Poor’s rates Japan on par with Slovenia at AA. Good luck keeping it as deflation intensifies.

The euro area, too, is grappling with huge debt loads, aging populations and political paralysis. Markets are jittery and questioning how euro-related contagion will hit even the most vibrant of economies -- including Australia’s.

The mining boom propelling Australia’s growth depends on strong global demand. It would be bad enough if Europe turned inward and consumed less. It would be far worse if Europe turned Japanese. That risk can’t be ruled out.

(William Pesek is a Bloomberg News columnist. The opinions expressed are his own.)

To contact the writer of this column: William Pesek in Sydney at wpesek@bloomberg.net

Bloomberg reserves the right to remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.