How will a double dip recession in the US economy impact on the global economy and small businesses?
We live in a globalised world. That sounds like a newsreader’s cliché, but it can be all too real for British businesses. The economic performance of entire countries far beyond Britain’s shores can have a dramatic effect on the outlook for our companies.
History shows that when the United States gets into economic difficulties, the rest of the world — particularly countries like the UK – can feel the problems. It would take a book to explain the economic woes of the US in recent years, but the short version of the story begins with the credit crisis of 2008, when major financial institutions discovered complex financial products based on mortgage loans had been mistakenly judged as much safer than they really were. That realisation saw Lehman Brothers collapse and the entire banking system become ultra-cautious about lending.
In turn this triggered a rare full-blown recession in the US throughout the first half of 2010. The knock-on effect of rising unemployment (meaning higher benefit payments) and falling revenue from income tax put the focus on the American government’s ongoing budget deficit, sparking bitter political division and even leading one credit ratings agency to downgrade the US government, the first time there had ever been even the slightest hint of formal doubt over its ability to repay its borrowing.
The US situation is not just mirrored in many major countries, but has arguably exacerbated problems elsewhere. For British businesses, the US slipping back into recession would be a major issue. At its simplest form, US consumers and businesses may cut back spending, hurting British exports. American buyers might also decide they can’t afford to prioritize quality and switch to cheaper products from elsewhere in the world.
There are also potential problems for British businesses that import materials: as more and more US firms go bust, those that remain will be able to drive up prices through a lack of competition. Businesses wanting to invest may find it increasingly difficult to borrow affordably as banks with US parent companies continue playing it safe. And a volatile currency market could mean revenue from overseas sales is at best unpredictable and at worst subject to major declines.
The last of these issues may appear the most complex, but is arguably the easiest to solve. One potential solution is risk management via forward exchange deals. These are arrangements by which you agree to exchange a set amount of currency on a future date, but you agree the rate of exchange now. That means, for example, that if you have signed a deal with a US customer who will pay in dollars in six months, you can tell exactly how much you’ll get in pounds, regardless of currency fluctuations. You can find the latest euro dollar forecast from TorFX – very useful for keeping track of the current and future exchange rates.
Of course, such contracts don’t guarantee you’ll wind up better off: the exchange rate may improve by the agreed date rather than get worse. One way round this is to use an option, where you don’t have to go through with the deal, though this will mean making a larger up-front payment that’s effectively an arrangement fee. Another solution is to use tools such as a stop order that automatically cancel the agreement if the exchange rate goes too far against you.
In December 1930, the great economist Maynard Keynes published an article in which he described the world as living in “the shadows of one of the greatest economic catastrophes in modern history.” The world was then 18 months into what would become the Great Depression. The stock market was down about 60%, profits had fallen in half and unemployed had climbed from 4% to about 10%.
