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Germany will do the minimum to support the euro ... and Europe

Remember the GFC?

In September 2008, UK authorities realised troubled mortgage lender Bradford & Bingley could topple the country’s financial system. Belgium-based giant Fortis faced closure. The French administration of President Nicolas Sarkozy was battling to save Franco-Belgian lender Dexia. The German government of Angela Merkel was preoccupied with rescuing Hypo Real Estate. Then the three biggest Irish banks, whose balance sheets amounted to 700% of Ireland’s GDP, tottered. A panic-stricken Dublin effectively bankrupted the country by guaranteeing the deposits and liabilities of the country’s six largest banks.

Little love lost between leaders

To save Europe’s financial system, the Dutch government proposed each country should establish bank-rescue funds on a common basis by contributing 3% of GDP, which would amount to 300 billion euros. Sarkozy supported the joint measures and invited the leaders of Germany, Italy and the UK to Paris to discuss the idea, which Italy quickly backed.

But Merkel denounced the proposal and threatened to boycott the Paris gathering if it was called a “crisis” meeting. The summit went ahead but failed to agree on joint solutions. Sarkozy blamed Merkel. “You know what she said to me? Chacun sa merde. (To each his own shit).”

Now, German officials denied Merkel used such French. They said Merkel quoted Goethe in German that ‘everyone should sweep in front of his door and every city quarter will be clean’. Whatever Merkel said, both responses describe Germany’s ambivalent attitude towards securing the future of the euro during the GFC and the eurozone debt crisis of 2010 to 2015.

Germany has just done enough in the past

Many times when the euro’s future needed cementing, Germany watered down or refused joint solutions if they imperilled German taxpayers. Berlin vetoed fiscal-transfer solutions, ruled out sovereign debt pooling (eurobonds) and thwarted the proper banking union needed to snap the ‘doom loop’ between banks and governments. Berlin delayed, then constrained, European Central Bank remedies such as quantitative easing. It placed an inadequate cap on the European rescue fund.

From 2010, to deal with Greece’s insolvency, Berlin opposed the default the country needed, inflicted measures that impoverished Greek society and sanctioned bailouts that only rescued foreign banks. In 2011, Berlin imposed austerity across Europe despite the huge social costs inflicted. In 2012, Germany initially disowned ECB president Mario Draghi’s ‘whatever it takes’ comment that saved the euro.

Yet, over these years, Germany always did enough to preserve the eurozone, even at some risk and cost to German treasure. Berlin sanctioned the small rescue fund and authorised baby steps towards a partial banking union. Merkel permitted ECB asset-buying and swung behind Draghi’s whatever-it-takes bluff. In 2020, Merkel probably performed the biggest U-turn of her career when she approved a 750-billion-euro recovery package funded by eurobonds. But the stimulus was a one-off, paltry and delayed.

Confusion about Germany’s intentions for the euro has given birth to the German verb ‘merkeln’, meaning to dither. Germany’s ambivalent attitude and minimalist approach to the euro could be tested again soon enough and possibly before Merkel retires as leader in September after 16 years as chancellor. The covid-19 pandemic has ravaged Europe’s economy, jolted anew by a winter-wave of infections.

Ultimately, the best solution for the currency union in its current state is for it to be enmeshed in a political and fiscal union that would allow German wealth to flow to weaker parts of the eurozone.

But German leaders are unlikely any time soon to take such breakthrough steps for five reasons.

The first is the natural selfishness of sovereign bodies as shown by how parochial Australian states turned during the pandemic.

The second is that Germany’s recent history makes it reluctant to lead.

A third reason is the German view that its neighbours have heaped misfortune on themselves.

A fourth is disquiet that the lax monetary policy of the ECB penalises German savers and subsidises undeserving southerners.

The fifth reason, perhaps the most obscure, is that rising inequality in Germany acts against a consensus that Germany should dispense its resources to save Europe – after all, many Germans think it is they who need help. So expect Berlin to do only the minimum required to hold together the currency union in its present form.

Germany reluctant to drive complete union

To be sure, a big-enough emergency coupled with ‘enlightened self-interest’ could prompt Berlin to take grand steps towards the political and fiscal union the euro demands because if the eurozone fails Germany will suffer too. Debtor countries and other creditor countries, not just Germany, could determine the destiny of the eurozone.

But no euro user approaches Germany’s pivotal position to determine the currency’s fate. Even amid sporadic crises, the eurozone could stumble along as an incomplete currency union for decades yet. Germany has no intention of pulling out – the euro keeps German exports more competitive than would a return to the Deutsche mark.

It’s just that, if need be, German policymakers will find it hard to win their population’s assent to take watershed steps to secure the euro. Thus, keep in mind either of the comments attributed to Merkel in that 2008 emergency meeting next time the eurozone is engulfed in crisis and that while Berlin can take only a minimalist approach towards the euro, the currency’s future will never be guaranteed.

 

Michael Collins is an Investment Specialist at Magellan Asset Management, a sponsor of Firstlinks. This article is for general information purposes only, not investment advice. For the full version of this article and to view sources, go to: https://www.magellangroup.com.au/insights/.

For more articles and papers from Magellan, please click here.

 

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