Business | Opinion
Germany creates a trap for itself by expecting too much
It wants its fellow euro zone states to be as like itself as possible, but their domestic demand cannot be universalised
- By Martin Wolf, Financial Times
- Published: 00:00 March 15, 2010
- Image Credit: NINO JOSE HEREDIA/©Gulf News
- Germany has had two overriding strategic objectives: sound money and European integration.
Ever since the federal republic was founded, Germany has had two overriding strategic objectives: sound money and European integration. These were the twin imperatives learned from the calamities of the early 20th century. The euro embodies these aims. Now they conflict with each other.
Is the right answer to rescue sinners, thereby strengthening the cohesion of the euro zone, but threatening monetary stability? Or is it to let sinners default, thereby strengthening monetary credibility, but weakening cohesion? Germany could avoid such choices before the single currency: uncompetitive countries simply devalued.
Unfortunately, the domestic German debate assumes, wrongly, that the answer is for every member to become like Germany itself. But Germany can be Germany — an economy with fiscal discipline, feeble domestic demand and a huge export surplus — only because others are not. Its current economic model violates the universalisability principle of Germany's greatest philosopher, Immanuel Kant.
The idea that countries are in difficulty because of their own sloppiness is easy to reach in the case of Greece. According to the latest economic outlook from the Organisation for Economic Co-operation and Development, gross public debt was 115 per cent of gross domestic product last year, the general government deficit was 12.7 per cent of GDP and the current account deficit was 11.1 per cent.
European Monetary Fund
This, then, would be a classic case for intervention by the International Monetary Fund. Normally, the latter would offer temporary liquidity support in return for a devaluation and fiscal stringency. Yet the German government rejects the idea that an outside body should dictate policy to a country that shares Germany's money. It suggests, instead, that a European Monetary Fund should be created, to provide conditional liquidity support. Under the direction of the other members of the euro zone, the EMF would dictate fiscal policy to the sinner.
Members of the German government also want penalties to be imposed. Among the ideas are: suspension of European Union subsidies, the "cohesion funds", to countries that fail to observe fiscal discipline; suspension of voting rights in ministerial meetings; and even suspension from the euro zone. A less controversial idea is to enforce fines already permitted under the EU's "stability and growth pact".
Yet, establishing the EMF would require a new treaty, as would exclusion from euro zone institutions (while a country could not be stopped from using the euro itself). Fining countries in fiscal difficulties has proved unworkable in the past.
We must note an even greater difficulty. The notion that the big threat is fiscal indiscipline is false. Greece is a special case. Today's fiscal excesses are not the result of fiscal indiscipline, but of private indiscipline. The latter, moreover, was an inherent element in the workings of the euro zone itself. It is how the euro zone economy balanced, at a reasonable level of overall demand, in the pre-crisis period.
The point is best understood from the financial balances of euro zone members in 2006, before the crisis, and 2009, at its height. The balance between income and expenditure in the private, government and foreign sectors must sum to zero. In 2006, Germany, the Netherlands and Austria ran huge private surpluses, relative to GDP, while the private sectors of Portugal, Ireland, Greece and Spain ran huge deficits. Fiscal positions seemed under control everywhere: Ireland and Spain even ran substantial (albeit illusory) fiscal surpluses. Meanwhile, the private surpluses of Germany and the Netherlands were offset by huge capital outflows. In all, we see private disequilibria, but the illusion of fiscal stability, with countries more or less in line with treaty criteria for fiscal deficits.
Then came the crisis: overextended private sectors retrenched. By 2009, the private sectors of almost every member were running a huge surplus: they are all Germans now! So what are the offsets? The answer is: fiscal deficits. The picture for Ireland and Spain is dramatic. In the short run, it is impossible to shift external balances quickly, particularly when domestic demand in the surplus countries is so weak. Now Germany insists that every country should eliminate its excess fiscal deficit as quickly as possible.
But that can only happen if current account balances improve or private balances deteriorate. If it is to be the latter, there needs to be a resurgence in private, presumably debt-financed, spending. If it is to be the former, there are two choices: first, current account balances must deteriorate elsewhere in the euro zone, entailing a move to smaller private surpluses in countries like Germany. Or, second, the overall balance of the euro zone must shift towards surplus — a "beggar my neighbour" policy.
Let me put the point starkly: Germany's structural private sector and current account surpluses make it virtually impossible for its neighbours to eliminate their fiscal deficits, unless the latter are willing to live with lengthy slumps. The problem could be resolved by a euro zone move into external surpluses. I wonder how the euro zone would explain such a policy to its global partners. It might also be resolved by an expansionary monetary policy from the European Central Bank that successfully spurred private spending in the surplus countries and also raised German inflation well above the euro zone average.
Germany is in a trap of its own devising. It wants its neighbours to be as like itself as possible. They cannot be, because its deficient domestic demand cannot be universalised. As another great German philosopher, Hegel, might have said, the German thesis demanded a Spanish antithesis. Now that the private sector's bubble has burst, the synthesis is a euro zone fiscal disaster. Ironically, Germany must become less German if the euro zone is to become more so.
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