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Wells Fargo Securities Economics Group: U.S. States Grapple with Europe’s Woes

07/20/2012
The fallout from the European Financial Crisis and resulting recession in Europe appears to be weighing even more heavily on global economic growth. The International Monetary Fund (IMF) recently released its updated economic forecast, which showed growth slowing around the globe. The IMF now sees a slightly deeper recession in Europe this year, weaker growth in China and much of the developing world, and slower growth in the United States. The slowdown is clearly evident in recent economic data, which have shown manufacturing activity and consumer spending weakening. In this update to our earlier report released last fall, we examine the potential impact to U.S. states from the Eurozone recession.1

There are several areas where the ongoing Eurozone recession is affecting growth prospects for the various states. The most direct measureable impact comes from a pullback in exports from these states to Europe. However, the impact is not limited to reduced exports to Europe. Europe's recession is also weighing on growth in China and other parts of emerging world, reducing the demand for U.S.-produced goods there as well. Besides the direct effect on exports, regional economies may also be affected by a slowdown in international tourism. Moreover, the continuing uncertainty surrounding the European banking system is contributing to tighter lending standards, increased stock market volatility and widening credit spreads around the world, which raises the hurdle rate for new investment and further restrains economic growth.

Impact on States' Goods Exports
The United States' direct exposure to Europe from exports is relatively small. Exports account for less than 15 percent of U.S. GDP, and exports to Europe accounted for just 2.19 percent of nominal output as of 2011. As a result, a 10 percent reduction in exports to Europe would slice 0.22 percentage points off of nominal U.S. GDP growth. Through the first five months of this year, U.S exports to Europe have risen just 2 percent compared to a 15.8 percent rise for the first five months of 2011. The -13.8 point swing in U.S. exports to the Eurozone sliced around 0.3 percentage points off of the already sluggish U.S. GDP growth over the past year.

Several states have an above-average exposure to a slowdown in Europe. As we highlighted in our first report on the topic, the impact of a Eurozone recession on each state varies considerably with the mix of goods produced and exported. Our map presents the level of risk of a European recession faced by each state. Those states with the highest risk have exports heavily weighted in one of three categories: transportation equipment, commodities and chemicals. The actual data appear to support this, with some of the biggest hits to exports over the past year coming in the chemicals, paper, motor vehicles and industrial machinery industries.

Transportation equipment is a mixed bag. The demand for commercial aircraft and aircraft engines remains strong, but shipments of cars, SUVs and minivans have slowed. Aircraft and parts make up the bulk of exports from Washington and Connecticut, at 71 percent and 61 percent, respectively, and exports have held up relatively well. Overall, exports from Washington through the first five months of 2012 are up 29 percent over 2011, which is stronger than the 14 percent gain reported for the same period last year. While shipments to the Eurozone have clearly slowed, exports to the Middle East, Indian subcontinent and Pacific Rim have more than made up for the shortfall. Year to date through May, exports from Connecticut's manufacturers have increased during the past year, both on an overall basis and to the Eurozone countries.

Alabama and South Carolina also export a large amount of transportation equipment, mainly automobiles and parts. Both states have seen exports moderate over the past year. BMW operates its sole North American assembly plant near Spartanburg, S.C., exporting approximately 70 percent of its output. The latest trade data show that shipments of transportation equipment accounted for one-third of South Carolina's $24.7 billion in merchandise exports. The state's top export markets in 2011 were Germany, Canada, China, Mexico and the United Kingdom. The effects of the Eurozone slowdown are clearly evident in South Carolina's export data. Exports from the Palmetto State to the Eurozone had be up a whopping 31.3 percent through the first five months of 2011 but are up just 3.1 percent this year. The 28.2 swing likely cut 1.4 percentage points off of South Carolina's nominal GDP over the past year. Overall, exports from South Carolina, which were up 27 percent year over year through the first five months of 2011, have slowed to just a 5.7 percent gain for the same period this year.

While the sting from slower export growth hurts, South Carolina benefits from international trade and investment in many other ways. The state is one of the largest recipients of foreign direct investment (FDI) per capita in the country. Moreover, the state's role in international trade is certain to increase, as the recently opened Boeing commercial aircraft assembly plant in North Charleston ramps up production and shipments. In addition, several major tire producers have announced new plants or expansions to existing facilities, including Bridgestone, Continental and Michelin. The latter two firms also maintain their North American headquarters in the state.

A similar story appears to be occurring in Alabama. Exports to the Eurozone have moderated over the past year, but growth in shipments to other parts of the world has, so far, more than offset that shortfall. Moreover, international investment continues to play a growing role in Alabama's economy. Daimler has operated a large assembly plant between Birmingham and Tuscaloosa since 1993, and the state has seen a steady influx of foreign direct investment in its automobile, steel and aviation sectors. Honda, Hyundai and Toyota have major manufacturing facilities in Alabama and export vehicles to Europe and elsewhere. Also, steel has long been important to Alabama and the state recently welcomed a $1.5 billion investment by Finnish-based steelmaker Outokumpu Oyi, which purchased the stainless steel division of ThyssenKrupp. More recently, Airbus Industries announced that it would build a $600 million assembly plant in Mobile to manufacture the A320 single-aisle jet.

Other states with outsized exposure to Europe include Utah, West Virginia, Louisiana and Nevada, all of which are major commodity producers. Elevated gold and silver prices have bolstered the value of exports from Utah and Nevada, which may overstate their vulnerability. Swings in commodity prices also tend to dominate swings in exports from West Virginia and Louisiana. Exports from both states, however, are also closely tethered to global economic conditions.

Table 1 summarizes the share of exports going to Europe for those states that have exposure to that area greater than that of the United States as a whole. For those states with the greatest exposure to Europe, as measured by the percentage of European exports as a percentage of nominal GDP, it is clear that these states export only a single or relatively few commodities. This is especially the case for Utah's metals exports and West Virginia's coal exports. Utah's metal exports are primarily destined for the United Kingdom. West Virginia exports coal for electric power generation and for steel production. The key markets for West Virginia's coal include Canada, Brazil, the Netherlands, India and Italy. Shipments to the Eurozone have slowed over the past year, but much of the slowdown has been made up by strong growth in other regions.


Table 1: U.S. Department of Commerce and Wells Fargo Securities, LLC

Chemical shipments have been a real soft spot over the past year. The demand for many chemicals tends to rise and fall with overall industrial activity, and the slowdown in the Eurozone and the broader global economy has taken a toll on chemical exports. Europe's problems have clearly weighed on the sector, and declines in sales to Europe account for a large portion of the slowdown in export growth from Louisiana. Overall, exports to the Eurozone from Louisiana are off 30.6 percent through the first five months of this year.

New Jersey and Massachusetts. The composition of goods produced for export in these states also tends to be more cyclical, so they have proven more susceptible to the global economic slowdown. Moreover, exports have been a strong source of economic growth in recent years. The region's outsized exposure to industrial machinery, computers and electronics and steel and chemicals makes them more vulnerable to swings in global demand and capital spending, which tend to get hammered when global demand weakens and uncertainty increases.

Impact to States' Service Sectors
While exports are one of the most direct ways Europe's economic troubles affect various states and one of the easiest to identify, they certainly are not the only avenue. Tourism and financial services are clearly being affected. European visitors account for around 40 percent of all international visitors to the United States, and the volume of visitors has slowed noticeably over the past few months. Year-to-date arrivals from overseas through April are currently up just 2 percent compared to a year-over-year gain of 12 percent for the same period last year. Moreover, the number of visitors from western Europe, and the United Kingdom in particular has slowed notably over the past year and actually fell 11 percent year over year in April. The top U.S. destinations for international tourists include New York City, Los Angeles, Miami, San Francisco, Las Vegas, Orlando and Washington, D.C. The slowdown in European visitors is falling heaviest on the East Coast, particularly the destinations in the Northeast and Midwest. Florida has so far proved somewhat more resilient, with continued inflows from Latin America offsetting some of the slowing from Europe. However, inflows from Latin America are also beginning to taper off and visitors are not spending as much when in Florida as in the past. The West Coast is holding up somewhat better, particularly San Francisco and Los Angeles. For Las Vegas, the European visitor count has essentially leveled off over the past year. Spending by tourists has also slowed. The top activities for tourists, dining and shopping, have declined slightly over the past year. Fewer international tourists are also choosing to visit theme parks, while more are opting for low-cost activities such as sightseeing in major cities, visiting historical and cultural sites.2

The impact from Europe's economic and financial struggles on the financial services industry is still playing out. Global financial service providers are scaling back as slower economic growth and heightened uncertainty are creating fewer opportunities for commercial banking, investment banking and wealth management. The weakened operating environment is expected to lead to layoffs in the financial sector, primarily in New York City, but to a lesser extent in Boston, Philadelphia and Chicago.

Conclusion and Outlook
As we highlighted in our first report on state's exposure to a European recession, the impact of a Eurozone recession on each U.S. state varies considerably. One of the main reasons for this is the difference in the types of goods produced and exported by a state. Eurozone exports as a share of state GDP are a good starting pointing for analyzing what areas are most at risk from the European recession. As time has passed, however, Europe's woes have spread to China and the emerging economies in Asia and Latin America, putting a much larger portion of the export sector at risk. We are also beginning to see some spillover into the service sector, particularly in tourism from western Europe. Moreover, the financial services sector is under renewed strain as Europe's financial woes and weaker economic growth weigh on near- and long-term prospects.
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