US recovery real – but vulnerable

US recovery could get derailed by recession in the eurozone, a slowdown in China, or both. Both threats loom large over the nascent US recovery.  

While the gains so far may be modest, evidence suggests the US recovery is gathering strength and could finally be on track to regaining its old form. Unemployment is at a three-year low and consumer spending is slowly starting to rise. But there are concerns that two events outside the United States could put an end to the recovery before it can get truly established.

Of the two external threats, the growing risk of recession in the eurozone is garnering the most attention. However, the possibility of a slowdown in China is equally capable of sending the US economy into another tailspin.

Earlier this week, and in the midst of some of the most violent demonstrations of the past two years, the Greek parliament passed a series of new austerity measures under pressure from the “troika” of lenders – comprising the European Central Bank, the European Union, and the International Monetary Fund, So far, Greece’s efforts to deal with a widening deficit gap have been underwhelming. Spending continues, for the most part, unabated.

The government also promised to raise funds by selling roughly €50 billion ($65.8 billion) worth of government assets. The reality, however, is that in the past two years, the government has raised only €1.7 billion through asset sales. It now appears efforts to sell additional properties have been abandoned.

Understandably, certain eurozone members  –  the ones footing the lion’s share of the rescue package  –  are rapidly losing patience. Several eurozone officials over the past few days have demanded that Greece demonstrate fiscal responsibility before it receives another 130 billion in emergency funding. Tough talk aside, however, it is difficult to imagine that European officials will force Greece into a disorderly default.

The uncertainty arising from such an event would almost certainly lead to a similar fate for Portugal and probably Spain as well, and the resulting damage to the region would be beyond repair.

Unfortunately, even if eurozone officials contain the Greek crisis, a slowing Chinese economy could still put the US recovery in jeopardy.

For the first time in two years, monthly exports fell in China this past January. Certainly, the situation in Europe played a part in this as weaker sales to Europe were largely responsible for the 0.5 percent decline for the month. Initially, a decrease of just half a percent may appear insignificant, but a closer look at the trade result also includes a sharp 15.3 percent decline in imports in January.

This shows that consumer spending in China is on the decline and a continuation of the trend would be very bad news for the global economy indeed.

Thirty years ago, China kick-started its economic revolution by positioning itself as a low-cost manufacturing center. As more and more companies took advantage of the labor savings, many new jobs were created in China. This helped convince millions of farm workers to leave the countryside to take manufacturing jobs in the cities, and in 2011, China’s urban population outnumbered its rural population for the first time in history.

This growing number of new wage earners, together with the potential for many more yet to leave the farms to relocate in the city, means that China retains a huge, untapped pool of consumers. The potential of the Chinese consumer is considered by many to be the driving force for the global economy and the best defense against a return to recession.

However, if consumers in China fail to live up to this billing, China’s anticipated role as the “engine” of the world economy may fall short. This is why China’s export and import totals are a closely-watched barometer for the health of the global economy. And right now, things appear a bit weak.

If China is entering a slower period, this, together with the situation in Europe, could stop the US recovery in its tracks. Worse, it could be the prelude to a wider calamity that ultimately brings down all the major economies.

– Scott Boyd is a currency analyst with OANDA, a Forex trading company with offices in New York,Toronto, Singapore, and Dubai, and contributes to the company’s MarketPulse FX blog.