BULLYING GERMANY

I have just watched the BBC Newsnight programme and am becoming increasingly exasperated at having to hear for the upteenth time the tired old mantra that the solution to the euro crisis is for Germany to allow the European Central Bank to print sufficient euros to buy up the sovereign debts of the indebted European economies.

If everything were so simple it would surely have been done.  That it has not been done is because everything is not so simple.  Let us first be clear that the reason it has not been done is not because of some mythic ancestral fear of the Germans of a return to Weimar style hyperinflation.  It has not been done because it amounts to a demand that Germany accept a transfer union and gives an unlimited guarantee covering all eurozone sovereign debt, which it fears it would not have the resources to honour.

The European Central Bank stands in a totally different relation to eurozone governments than do the Bank of England to the government of Britain and the Federal Reserve Board to the government of the US.  When Mervyn King the Governor of the Bank of England and Ben Bernanke the Chairman of the US Federal Reserve Board bought British and US government bonds by printing money (“quantitative easing”) they did so in the knowledge that behind them stood the Treasuries of Britain and the US.  This meant that if there were any danger of things going wrong and of quantitative easing undermining the stability of sterling or the dollar the British and US Treasuries would be in a position to step in and bail them out by raising the necessary money through higher taxes.

The European Central Bank is not in that position.  No European Treasury stands behind it.  There is no unified European tax system that could raise money if things go wrong.  The EU has no independent tax raising powers.  It relies entirely on contributions to its budget from member states who negotiate the size of their contributions years in advance.   

What would have to happen if the European Central Bank were to print euros in order to engage in a bond buying programme and things were to go wrong is that it would have to turn to European governments for help, which in practice as everyone knows would mean the German government.  Given the scale of the European sovereign debt crisis Germany could then find itself facing demands for money running into trillions of euros.  With a GDP of just $3 trillion Germany could find it impossible to raise such funds in which case there would be a default.  Germany would be at the centre of this default and its hard won reputation for solvency and financial reliability and integrity would be destroyed.

In other words the demand that the European Central Bank buy European sovereign debt by printing euros is in reality simply another demand that Germany accept a transfer union and guarantees all European sovereign debt regardless of its ability to honour such a commitment.  Such a thing would not only be totally contrary to the EU Treaties but would be rather like demanding that the State of Massachusetts guarantee the entire Federal and state debt of the whole United States all by itself.   

It is very alarming that Europe has got itself to the point where such a demand could be made.  It is more alarming still that because of the political and economic imperative to preserve the eurozone it is quite possible and even likely that Germany and the European Central Bank might in the end accede to it.  It is still more alarming that this demand is being made without its risks and implications being clearly spelled out.  No one should be under any illusions about what these risks are or of the truly catastrophic consequences if this demand is conceded and things go wrong.

2 thoughts on “BULLYING GERMANY

  1. An excellent and compelling analysis, Alex, which includes many salient facts that make the dilemma easier to understand for everyone. It’s amazing how often international reporting on financial crises is delivered by individuals who don’t know anything about finance or trade. It’s easy to call up spectres of the Weimar nightmare, because people are disposed to believe it, and it’s a much more romantic story than the dollars-and-cents (or euros) practicality of the real situation.

    Strangely, the romantic story is also easy to believe because it’s less scary. All we have to do is calm Germany’s fears of past mistakes, that narrative goes, and everything will be all right. But the real situation is much more terrifying, and many can glimpse only the outlines of the crisis because knowing is too frightening. If Italy needs a bailout, the money just isn’t there, and they’d have to default. Then, I think, things will start to slide very rapidly.

    • Another interesting facet of the European economic crisis that helps to put it in perspective for me, from a column by Paul Krugman;

      “First, if you look around the world you see that the big determining factor for interest rates isn’t the level of government debt but whether a government borrows in its own currency. Japan is much more deeply in debt than Italy, but the interest rate on long-term Japanese bonds is only about 1 percent to Italy’s 7 percent. Britain’s fiscal prospects look worse than Spain’s, but Britain can borrow at just a bit over 2 percent, while Spain is paying almost 6 percent.

      What has happened, it turns out, is that by going on the euro, Spain and Italy in effect reduced themselves to the status of third-world countries that have to borrow in someone else’s currency, with all the loss of flexibility that implies. In particular, since euro-area countries can’t print money even in an emergency, they’re subject to funding disruptions in a way that nations that kept their own currencies aren’t — and the result is what you see right now. America, which borrows in dollars, doesn’t have that problem.

      The other thing you need to know is that in the face of the current crisis, austerity has been a failure everywhere it has been tried: no country with significant debts has managed to slash its way back into the good graces of the financial markets. For example, Ireland is the good boy of Europe, having responded to its debt problems with savage austerity that has driven its unemployment rate to 14 percent. Yet the interest rate on Irish bonds is still above 8 percent — worse than Italy.”

      A couple of solid take-aways there – a common currency imposes certain unseen risks (are you listening, Ukraine??), and austerity should not even be part of the conversation where straightening out the mess is concerned.

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