Canadian economy also victim of U.S. ‘super committee’ pratfall: analysts

But the failure is also a fresh indication that political dysfunction, both in Europe and the U.S., is becoming a major, contributing factor to the global economic malaise.

“The big challenge is all the big risks to the economic outlook right now have a political dimension, and you do not know how politics will unfold,” said TD Bank Craig Alexander.

“What we worry about is the possibility of a feedback loop where you go from the political crisis to the economic and financial crisis.”

U.S. economist Peter Morici of the University of Maryland, who has followed Washington politics for years both on the outside and inside at the Trade Department, said a deal could still be cobbled together, but he is not hopeful.

“Genuine progress is not possible,” he said in a paper, “because the principals (politicians) won’t accept the facts.”

In Europe, Germany again threw cold water on calls — including from Canada — for a big one-time fix to the sovereign debt crisis, with one official declaring there is no “bazooka” to pull out of the bag and overwhelm the problem.

While Europe remains the world’s — and Canada’s — biggest risk factor, Alexander believes the current gridlock in Washington also has the potential to derail the U.S. economy all on its own.

The first shock could come as early as January unless the deeply divided Congress agrees to renew billions of dollars in payroll tax cuts and emergency unemployment benefits.

The next shock is set to strike in 2013 when if by then there is no budget deal, it will trigger automatic deep cuts to military and discretionary spending.

Economists have calculated the hit to U.S. economic growth could be as large as two percentage points in 2012, and three percentage points after 2013.

On Tuesday, the U.S. downgraded its third-quarter growth by half a point to two per cent. According to the Bank of Canada, the U.S. economy is entering a precarious period in which any shock would likely tip it back into recession.

“Certainly that will have an impact on Canada,” said Avery Shenfeld, chief economist with CIBC World Markets.

“One reason why the Bank of Canada was so concerned about growth (next year) is its working assumption is that those measures (U.S. stimulus) will come to an end.”

Lower growth in the U.S. hits directly at Canadian exports of autos, machinery, aerospace and lumber because of reduced consumer demand.

As well, a recession in the world’s largest economy would lead to increased volatility in global equity markets, depressing the net worth of Canadians’ investments and pension funds.

Already, the prospects of reduced military spending south of the border is rippling through Canada’s export oriented aerospace and defence sector.

CIBC analyst Michael Willemse reported Tuesday that Montreal-based CAE Inc., which provides modeling, simulation and training products with military and civilian applications, has about $28 million in sales at risk from U.S. defence cutbacks. That’s a small share of revenues, but just the threat of upcoming cuts has played a role CAE losing about one quarter its market value since June, the analyst said.

While the situation looks bleak, Alexander noted there is a considerable upside if politicians on both sides of the Atlantic deal decisively with their respective problems.

“If Europe and the U.S. can show decisive leadership there is a huge upside potential,” he said, noting that it would boost consumer and business confidence, and might lead corporations sitting on record levels of cash to invest.

“If these idle funds were put to work, they could create investment and jobs,” he noted. “They would also fuel a strong rally in equities and lead to higher bond yields.”