The Top 3 Risks to Global Economic Recovery

Since it’s still January and we still have the whole year ahead of us, I figured now’s as good a time as any to outline the risks that the global economy faces in 2011. It’s always good to know what we’re up against, right? Here are the top 3 risks to global economic recovery:

Risk #1: Europe

Talking about Europe’s debt problems is like beating a dead horse. It’s been featured in forex forum discussions more times than Lindsay Lohan name pops up on tabloids! But there’s a reason it keeps coming up–the problems just never seem to end!

The threat of financial contagion catching on in Europe remains a big risk this year. While countries like Ireland and Portugal can be saved, what happens to the larger debt-ridden economies like Spain and Italy?

Those two are clearly too big to be bailed out given the current size of the European Financial Stability Fund (EFSF). Some estimates say it could take as much as 500 billion EUR to bail out Spain alone, well above the 250 billion EUR figure that the fund can lend to countries in need!

Risk #2: United States

Another sore spot to the global recovery is weakness in the U.S. economy. As the economic giant of giants, trouble with Uncle Sam’s economic development can have a negative impact on its trading partners.

The non-farm payrolls released early this month reminded the markets that the U.S. has been struggling with employment numbers weaker than Pip Diddy‘s knees for quite some time now.

The unemployment rate might have gone down to 9.4% in December, but the report also showed that only 103,000 jobs were added that month. As I said last Friday, the pace of job creation still isn’t fast enough to support a healthy economic recovery.

Aside from weak job creation, the U.S. is also nursing a boo-boo in the housing market. Because housing demand largely depends on jobs, word is fast spreading that the housing market is in danger of a double-dip. But don’t let it ruffle your feathers too much. We’ll most likely just see a “bumpy ride” rather than a full-on double-dip (double rainbow reference).

The last but definitely not the least concern in the U.S. is the possible increase in borrowing costs. Just because the euro zone’s debt concerns are paraded in the pip streets on a daily basis doesn’t mean that credit rating agencies have forgotten about the U.S.!

Last week Moody’s cautioned that the U.S. will need to reverse the expansion of its debt if it wants to keep its AAA rating. Similarly, Standard and Poor’s also warned that they aren’t ruling out a downgrade for the U.S. either. Yikes!

Risk #3: China and Other Emerging Markets

The People’s Bank of China (PBOC) dropped another bombshell last Friday when it announced that it will raise the reserve requirement ratio (RRR) of China’s banks by 0.50%, the fourth increase in a little over two months, in order to mop up excess liquidity and slow down inflation.

The problem is that China’s slow rate hiking ways may not be enough to really clamp down inflation. If the PBOC continues to take a “slow and easy” approach to policy tightening, it could be forced to raise rates too aggressively in the future in the event that inflation spirals out of control.

Also, the West’s more relaxed monetary policy (a.k.a. more quantitative easing) is causing massive flows of capital to emerging markets, which could create asset bubbles and put their economies in rocky footing. Finally, the conflict between North and South Korea could result in a full-blown military battle. I join the world in praying that the tension doesn’t escalate to this point.

Whether the world can overcome these risks or not, only time will tell. It certainly looks like we’re facing an uphill battle this 2011. But then again, when have things ever been easy?

I guess for now, all we can do is cross our fingers and hope that our leaders will make the right decisions and won’t crack under pressure… just like we always do at the start of the year.