"When the United States sneezes, the rest of the world catches a cold."

This saying exemplifies the importance the U.S. economy has had on the rest of world. As the largest economy, the world's fortunes have been tied to the U.S. With the introduction of the euro in 1999, and the explosion of the BRIC economies (Brazil, Russia, India, and China), many say the importance of the U.S. economy has diminished. Has it? A weakening currency and huge debts have called the U.S.'s assumed position as the world's dominant economic powerhouse into question. We'll explore six signs why the U.S. could lose its stature as the financial capital of the world.

Financial Crisis' Effect on U.S. Status
The recent financial crisis has had an effect on the perceived status of the U.S. as the financial center of the world. The Great Recession and resulting credit crunch created the need for the Fed to pump trillions of dollars into the financial system to avoid an even greater financial calamity. This open spigot has created valid deficit worries. The deficit at the end of 2009 was 10.2% of GDP. This percentage is reaching record levels. This has investors worried about the long-term future of the U.S. as a financial super-power. The rest of the world also became distrustful of U.S. policies after Treasury Secretary Hank Paulson allowed Lehman to go under in September 2008. This decision had far-reaching negative effects for investors throughout the world, and generated ill-will towards the U.S. The near-collapse of our financial system and the wild-west image of Wall Street bankers also contributed to the negative perception. (Learn more in Case Study: The Collapse of Lehman Brothers.)

  1. Not Everyone Caught a Cold
    Although it cannot be said that world economies are completely "decoupled," not every major economy experienced a recession in 2007-08. In fact, Australia never technically went into a recession and its central bank was actually raising rates last year. Emerging economies also showed relative strength versus developed economies during the global recession. Although these countries' GDP declined along with the developed world, it was actually less severe than the fall in world GDP.

  2. Debt Worries
    Debt as a percentage of GDP has been rising dramatically during the financial crisis and shows no sign of dropping with the current budget proposal and other entitlement commitments going forward. This debt level is unsustainable for the long term if growth is not as robust as predicted, or investors (China) stop buying U.S. debt.

  3. Pristine Rating Threatened
    Debt as a percentage of GDP doesn't look pretty and rating agencies are threatening to strip the U.S. of its AAA rating. Although, the current Treasury Secretary Geithner will hear none of it, Moody's has recently reported that says the U.S.'s AAA rating could come under pressure unless something is done about mounting deficits. Hopefully this will not happen. Just imagine all the textbooks that will need be rewritten! Current financial theory is based on the U.S. Treasuries being the risk-free rate. (Learn more in The Debt Ratings Debate and Bond Rating Agencies: Can You Trust Them?)

  4. Currency Worries
    The U.S. Dollar is the foremost world trade and reserve currency. The financial crisis and the resulting weakness of the dollar (due to all of the stimulus by the Fed), have made some world leaders wish for competition from other major currencies and an end to dollar dominance. They desire a multi-monetary system, with more than one place to go when systematic worries overtake the market. The Chinese are vocal about their displeasure with the dollar-dominated global trade system, especially now with the inflationary pressure on the American currency.

  5. Emergence of China
    The U.S. and China have a unique relationship. America is the world's biggest debtor and China its biggest creditor. China currently owns approximately $800 billion of U.S. government debt and hold significant positions in major American public companies such as Morgan Stanley. Although the Chinese economy is still less than one-third the size of the U.S. economy, the strong and quick growth has made people take notice. And as the emerging markets continue to experience high single-digit to double-digit growth, people believe they will eventually catch-up with the U.S. if they continue to experience slower growth. (Learn more in Top 6 Factors That Drive Investment In China and Investing In China.)

  6. Uncertainty Over Washington's moves
    Some business leaders seem less than enamored of the current administration. They claim the current populist drum beat from Washington threatens to push business overseas. Politicians and the public are angry and deservedly so over the actions taken by some leading up to the financial crisis. However, a kneejerk reaction to regulatory reform that constricts business activity too severely has some business owners acting very cautiously. If the regulatory environment becomes so onerous in the States, business will naturally follow to more lax environments.

Perception or Reality?
Has the U.S. lost its position? Not necessarily. Treasuries are still the safe haven investment of choice during the financial crisis. However, the current perception seems to be tipping towards U.S. vulnerability and an eventual "dethroning" of its position as center of the economic universe. The six signs offered could be more a matter of perception than reality, but unless the most serious of the issues are dealt with by the U.S. government, the perception may become reality.

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