Behind the persistent U.S. pressure on Europe to strengthen its bailout defenses is an ominous prospect: another systemic crisis that would almost certainly throw the United States back into recession.
A deepening of Europe's sovereign debt crisis triggered by a Greek default or inaction by euro zone policymakers could launch a replay of the market seizures in 2008 that followed the collapse of Lehman Brothers, analysts and bankers say.
The scenario would largely follow the same script -- markets collapse, investors flee risk, bank funding dries up and companies, who have already dramatically slowed hiring, shed employees to gird for the worst.
It's a grim picture for President Barack Obama, who faces re-election next year.
Obama pressed German Chancellor Angela Merkel and French President Nicholas Sarkozy in talks last week to act with more force to contain the crisis, and U.S. Treasury Secretary Timothy Geithner pressed the case with finance ministers at meetings over the weekend.
"The threat of cascading default, bank runs, and catastrophic risk must be taken off the table," Geithner said.
With the U.S. economy already growing too slowly to lower an unemployment stuck above 9 percent, it is in too poor of shape to weather a big shock from Europe.
"If there's a huge blow up in Europe, it would pose a very large financial risk and that in turn would feed back on the real economy both in Europe and the United States," said Edwin Truman, who served as an adviser to Geithner during the depths of the financial crisis in early 2009.
Europe's woes could provide some impetus to U.S. lawmakers considering a proposal from Obama for a $447 billion package of tax cuts and spending designed to spur job creation.
Former White House advisers Austan Goolsbee and Lawrence Summers both cited Europe's woes as a reason to pass the plan.
"There has, if anything, been too much collective belt tightening. Our challenge is ensuring that growth proceeds at a satisfactory rate in the years ahead," Summers said Friday, calling further fiscal tightening "moronic."
"In the United States it is clear we have lost half a decade to this downturn and it appears we may lose another half decade or more," he added.
U.S. BANKS INSULATED?
Geithner has now spent three straight weekends urging European officials to provide a definitive solution to the crisis by erecting a safety net with similar powers to the array of programs the U.S. Treasury and Federal Reserve tapped to fight the financial crisis.
During meetings of the Group of 20 major economies and the International Monetary Fund this weekend, Geithner said euro zone governments should team up with the European Central Bank to leverage their resources and extend their market clout.
He also repeatedly called the euro area crisis the biggest threat to the global economy.
This is playing out most immediately in falling U.S. stock prices, where the Dow Jones industrial average suffered its worst week since October 2008, falling 6.4 percent on fears of a Greek debt default and the Federal Reserve's gloomy outlook for U.S. growth. Destruction of asset wealth feeds directly into reduced demand.
Another key avenue by which the U.S. economy could get hit is the banking system and a sharp pull back in credit markets.
The conventional wisdom among bankers is that U.S. financial firms could weather a widening crisis because they have little exposure to European debt and stronger capital cushions than in 2008.
Indeed, Citigroup Chairman Vikram Pandit said Friday banks' exposure to Europe was "extremely manageable," and the bigger risk would be a "demand shock" to the U.S. economy in which shell-shocked businesses and consumers retrench.
But analysts say a severe market seizure could quickly put funding pressures on weaker U.S. institutions, particularly those with ties to European banks.
"At the time of the Lehman collapse, Europe also was thought to be insulated from that crisis, but obviously that was a mistake," said an executive at a major U.S. investment bank.
Academic research shows grim metrics from recessions brought on by financial collapse.
A 2009 study of post-World War Two financial crises by Harvard University economist Kenneth Rogoff and University of Maryland's Carmen Reinhart found that unemployment rates spike an average of 7 percentage points over the down phase of the cycle, which lasts on average more than four years.
At the same time, they found real GDP per capita falls an average of 9 percent from peak to trough, a process that takes two years. Real housing prices tend to decline 35 percent over six years and equity prices fall 55 percent over 3.5 years.
"Europe is already hurting U.S. growth," said Troy Davig, senior U.S. economist at Barclays Capital. "When you combine Europe with the debt ceiling debate, the U.S. downgrade and stock market declines, confidence is at historic lows. This is not an environment in which firms want to hire people."
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