Economists and indeed the general public are increasingly mystified by the actions and words of the German government. On the one hand, Chancellor Merkel spars no pains in reiterating her commitment to the Eurozone and her willingness to go the distance to restore its integrity and creditworthiness. On the other, her government and the Bundesbank have systematically vetoed all policy measures proposed by reputable economists to accomplish this end: Eurobonds, core-country wage/consumption increases, a credible commitment by the European Central Bank to backstop the sovereign debt of Italy and Spain. Instead they have used the fairy tale of “fiscal irresponsibility” (at best true only of Greece) to railroad austerity and a bogus “fiscal union” onto the rest of the Eurozone.
I am not alone in having proposed a viable nondeflationary and export-neutral alternative in my 19 January NYT op-ed. Such prominent commentators as Paul Krugman in the New York Times and Martin Wolf in the Financial Times have also debunked the fiscal irresponsibility myth (which is beginning to acquire the status of the 21st century’s “Dolchstosslegende”/”stab-in-the-back legend” of World War I vintage) and advanced similar policy prescriptions. So why has the German government been intransigent to the point of undermining its country’s own seeming self-interest?
I can see three alternative explanations, none entirely convincing, which question to varying degrees whether we are dealing with a modern “ruling elite” with a minimum of historical consciousness and economic savvy.
- German, and indeed many EZ and ECB leaders,
simply do not get it: they lack the most basic understanding of the theory of
effective demand, the cascading dynamics of bank runs and crises of confidence,
and indeed their own economic history. They are still obsessed with the
hyperinflation of 1923 but have completely forgotten the more important lesson
from the disastrous 1931 austerity program of the ill-fated Brüning government.
While the former wiped out the savings of the middle class, it also erased the
nonredeemable German domestic war debt (but not the reparations) from the lost
war. It was definitively ended not by austerity but by a currency reform that
quickly returned the country to growth until the world crisis of 1929. The
latter, however, only exacerbated the 1929 crisis, leading to mass unemployment
and the social unrest that actually led to the rise of the Nazis, and did not even
accomplish its ostensible but irrelevant justification: the rescinding of
reparations. Instead, we hear the Bundesbank’s Jens Weidmann and German Economic
Council Chairman Wolfgang Franz’s recurrent mantra that ECB intervention would
be a central bank “cardinal sin.”
- The “hidden agenda” or “Prussian designs”
theories of such informed commentators as former EU official Bernard
Connolly and international affairs analyst Tony
Corn. Connolly argues that a Eurocratic Franco-German cabal has
deliberately and surreptitiously imposed an ultimately undemocratic and
economically dysfunctional currency union on the other EZ states to further its
somewhat obscure political ambitions. And in fact five EZ governments have
already fallen as a result of the Euro crisis, of which two (Greece and Italy)
are now being ruled by unelected ‘technocratic’ (or as Paul
Krugman puts it, ‘delusional’) interim cabinets. Corn, in contrast, sees
the plot as entirely German, in the tradition of Bismarck’s Prussia, leveraging
a customs union into de facto German hegemony. And the Franco-German
partnership? “To the extent that the German-French tandem remains today the
engine of European integration, Germany is now squarely in the rider’s saddle,
while France - to use a Bismarckian metaphor - has to content itself with the
role of the horse.”
Whether one believes in the Connolly and Corn hidden agendas or not, many of their predictions have come to pass: undisputed German hegemony, limitations on democracy and national sovereignty, the rise of xenophobic and racist populist parties and an increasingly nationalist atmosphere in the press and political discourse.
But is it plausible that a ruling elite would consciously jeopardize the economic well-being of its people to such an extent solely to further some hidden political ambitions? It would not be unprecedented historically, but in an era of democratic elections, a free press and an informed if anxious public it seems like a risky strategy with a rather ambiguous understanding of self-interest. Still, the second Bush administration got away for years with pulling the wool over the American electorate’s eyes over the Iraq invasion, in the pursuit of some elite’s understanding of its self-interest.
- The economic competition at a global level thesis. Instead of rebalancing the Eurozone internally without triggering deflation, while maintaining its export competitiveness unchanged, Germany has adopted a different perspective on the role of its EU partners that already proved successful in meeting the challenge of the low-wage, post-communist Eastern European countries after they joined the EU in the first decade of this century. By astutely integrating them into its supply chain, Germany not only did not suffer the loss of manufacturing employment the US has experienced through outsourcing and the ‘hollow’ corporation, it actually boosted its share in world exports and achieved export surpluses second only to China’s. Germany managed to combine its traditional strengths in advanced producer goods and high-end automobiles with low-cost suppliers from low-wage Eastern Europe. At the same time, it benefited from a lower external exchange rate and a consumption boom in the Eurozone periphery due to the Euro and the CDO-like magic of Eurozone interest rate convergence to the undiminished low German level. While the 2000 Lisbon Agenda called for the EU to become the most competitive knowledge-based economy in the world by 2010, this has been an abject failure, with R&D intensity only rising to 1.9% instead of the projected 3% of EU GDP. And with the bursting of the peripheral bubble in 2008, German industry no longer sees the field of battle as primarily within the EU, but rather with China on a world stage. As China moves up the technological value-added ladder, German competitiveness can only be maintained by harnessing all of the EU into its supply chain as low-wage producers, since there is only so much productivity growth and innovation that can still be wrung from its mature economy (the plight of solar panel manufacturers is a case in point). The race to the bottom is on to counter the low-wage Chinese juggernaut. The question is now who can most intensely exploit its migrant/Eurozone periphery workers, China or Germany?
From this global perspective, it is understandable that Germany does not want to jeopardize its favorable borrowing status by mutualizing Eurozone sovereign debt, nor shell out transfer payments and bailouts to keep its partners on the listing Euro boat from going under. Nor will a rebalancing of the Eurozone that rights the ship by increasing German wages, while just keeping German export competitiveness constant, be enough. German needs to increase its export competitiveness at all costs in the face of the Chinese challenge, without a Eurozone reform to weigh it down.
The only drawback of this strategy is that it will not work. Germany cannot have it both ways - the center of a web of low-cost labor feeding its potent export industries (Merkel’s marathon project requiring an endurance of years), while refusing to bear the costs of leadership in a functioning currency zone and true fiscal union in the here and now. And the attempt to drive down Eurozone periphery wages has only unleashed a devastating debt-deflation spiral, apparently to the surprise of EU and IMF economists alike.
The markets will deliver the verdict on this failing in a matter of days in the form of Eurozone cardiac arrest, before the grand German program can get off the ground. One can only hope that the failure of German leadership is not just blamed on the ‘usual suspects’ (take your pick of international speculators, hedge funds, rating agencies, lazy Greeks, Italians, etc., world Jewry, Muslim immigrants ...).
[A version of this post was submitted to the New York Times as an op-ed on Dec. 15.]