A word of warning: JR tries to explain the economy to himself. If it helps you, too, so much the better. Corrections are welcome.
When the current Euro crisis is discussed, it would seem that countries like Greece are suffering most, while Euroland members with comparatively stable public finances were head and shoulders above them, beautifully in command of the situation.
Not really. While the Chinese government has gone into another fit of righteous indignation about America’s irresponsible and immoral handling of its debt crisis, German politics is reeling. If German taxpayers should become the euro zone’s “bank of last resort”, the least you can expect is that many Germans would feel that they had been made pay twice: by falling or stagnating incomes from the 1990s to today, and now once again, for those lazy southern Europeans who consumed amply, rather than housewifely saving their money (“as Germans did”). Try to explain that if you are a politician, and seek reelection.
The Economist has issues with Germany, the country which it believes needs to, but doesn’t, lead the Euro rescue operations:
In truth it is not speculation but indecision and timidity that are at fault. Germany has made expensive loans to troubled countries, but does not like big fiscal transfers. It said the EU’s big bail-out fund would be temporary, but it is being made permanent. Money for rescues is being raised with joint guarantees, yet Germany will not accept common Eurobonds. It has resisted immediately imposing losses on bondholders, yet insists they must share the pain from 2013 and has started to discuss lengthening debt maturities despite fierce resistance from the European Central Bank. It denounces financiers for causing the crisis, but has backed arguments against Ireland burning its bank creditors.
More than once, Mrs Merkel has countermanded Mr Schäuble. She prevaricated over who should succeed Jean-Claude Trichet as ECB president, finally backing Italy’s Mario Draghi long after he had won over other leaders and, indeed, Mr Schäuble. Even Bild, Germany’s leading tabloid, elevated Mr Draghi as an honorary German, depicting him with a Prussian helmet. “What does Germany want?” asks an exasperated Eurocrat in Brussels. Plainly, Germany does not know. To one Berlin economist, “Germany is like an unguided missile over Europe.”
(May 14, 2011, page 40)
Another paper, the Wall Street Journal (WSJ), explained some fifteen months earlier:
Germany’s longstanding commitment to fiscal rectitude and stringent anti-inflation policies are deeply ingrained in the national psyche, leaving many Germans with little sympathy for euro-zone laggards that have spent beyond their means.
In Germany, memories linger of the destructive inflation that followed World War I. Such fears made many Germans wary of monetary union from the outset. Former Chancellor Helmut Kohl and other German politicians sold the euro to a skeptical German public in part on the premise that weaker European economies such as Greece and Portugal would adopt the best practices of Germany and France, and make their economies more productive while keeping inflation at bay and their finances in order.
Which, added the WSJ article, didn’t happen.
And in-between the WSJ’s February 2010 and the Economist’s May 2011 articles, Abraham Newman tried a bit of psychology to explain the incoherence in Germany’s response to the Euro crisis
The demise of Germany’s Europe strategy has not created a Bismarckian realpolitik, where predictable political horse trading has replaced Euro-optimism. Instead, it has resulted in a period of extreme policy volatility marked by shifting positions and the absence of a clear logic behind German decision-making. Faced with the mounting uncertainty of the crisis, the natural instinct of a rules-based society like Germany is to turn to more rules. But without trust in other European partners to follow the rules, this approach has quickly hit a dead end. German leaders have turned to a series of ad hoc responses that are strikingly erratic, in contrast to the Teutonic caricature.
The new volatility meant that in the short term – until the Euro stakeholders, and particularly Germany, had settled on new policies -,
Germany will likely be part of the problem, calling for new austerity rules that will further squelch growth on the European Continent, which is already faltering. As further financial trauma hits the region, US policy-makers must actively engage the situation and resist the temptation to count on the old engine of Europe. Within Europe, German volatility severely weakens the hand of the European Commission. Long enjoying the de facto support of Germany, the Commission’s ability to maneuver has been curtailed and with it pan-European governance.
Newman, in fact, is interested in how American politics should interact with Europe in its current shape. Clearly, his view of the crisis-struck European countries is much more sympathetic than Germany’s public opinion, which shapes the country’s policies, which in turn aren’t in the German interest:
The incoherence of [Germany’s] response [to the Euro crisis] has often hurt the position of key interest groups like export oriented firms or big banks typically associated with simple national interest stories.
The US has the opportunity to help Germany find a new foreign economic agenda based in prudent sustainable growth. This agenda would have two key pillars. First, regulate risky Anglo-market excesses of the past decade (e.g. unregulated derivatives) that many Germans blame as a root cause of the crisis. Second, reframe global trade imbalances between deficit and surplus countries as a cornerstone to German and global macro-prudential stability.
When reading mainstream German papers only, you aren’t likely to see any kind of policy taking shape. They are more likely to nurture German anger (and play to it, as news needs to sell), than to talk economics. But what kind of policy would need to take shape? Newman mentioned Germany’s export-oriented industry as a key interest group – and he formulated the goal of reframing global trade imbalances between deficit and surplus countries as a cornerstone to German and global macro-prudential stability.
The latter point is the main bone of contention between European trade-surplus states (Germany in particular, because it is Europe’s biggest economy and a trade-surplus state), and countries like Greece, Portugal, or Spain.
But it is also the main source of instability in global trade relations, and there, among the world’s two biggest economies – America and China. Michael Pettis, an American national, and a finance professor at Peking University’s Guanghua School of Management, seems to be in an ideal place – Beijing, that is – to observe and to analyze these issues.
He offers no formula, more or less ready-to-use for politics. But the way he describes the problem – if he is right – would suggest a general roadmap. Just as the Chinese accumulation of US Treasury bonds was the automatic consequence of Chinese policies that the US opposed (pushing industrialization in China by lending to the countries buying these industries’ products), Germany fretting about the crashing creditworthiness of its southern European trading partners (all of which have run trade deficits with Germany) is basically similar to Chinese leaders’ appeals to the US government to avoid measures that may erode the value of the dollar and those holdings. But Pettis sees the better part of the trouble in China and Germany:
Not only have the creditors totally mixed up the causality of the process, and confused discretionary foreign lending with domestic employment policies, but an erosion in the value of the liabilities owed to them is an almost certain consequence of their own continuing domestic policies.
It is largely policies in the creditor countries, in other words, that will determine whether or not the value of those obligations must erode in real terms.
In a previous post, Pettis explained what the creditor countries’ policies looked like – he chose Germany as an example, but both China’s and Germany’s causal policies have been quite similar:
It turns out that domestic policies by the German government can explain both high German savings and low Spanish savings. For example assume that Germany has an undervalued currency, low wages relative to productivity, high explicit or hidden consumption or income taxes (repressed interest rates, for example, or environmental degradation), and high quality infrastructure subsidized by these taxes.
Notice how these work. Undervalued currencies and low wages relative to productivity have the effect of reducing the real value of household income and subsidizing manufacturers and employers. Consumption and income taxes also reduce household income in real terms, and by using them to subsidize infrastructure they reduce production costs.
No blogpost can explain in full as to why no country (or bank) can borrow endlessly, and why no country or bank can lend endlessly – but Pettis’ post seems to come pretty close. In general economic terms, he also explains which steps both creditor and debtor countries could take, to arrive at a more sustainable global economy. The good news for people in the creditor countries would be that they needed to consume more – and consumption is fun, isn’t it? The bad news is that this would cost jobs (that’s my take, not Pettis’) – unless a big leap in economic growth were another pleasant consequence of the readjustments.
If Pettis is right: what could stop German politics from translating his advice into actual policies? Abraham Newman – see further above – mentioned export-oriented firms as a key interest group. Include the labor unions, if you like. Obviously, they would like to see higher wages and salaries – but they also want to see the export industry to create jobs, and aren’t inclined to take chances there.
But just as clearly, the German taxpayers (and that, too, would be employees) neither want to, nor can be, the bank of last resort. There’s no such bank to be found, once the commercial banks are no longer be willing to trust Greece’s, Portugal’s, or Spain’s, creditworthiness.
What starts as a zero-sum game will end as a zero-sum game.
Updates / Related
» Does Germany know the Secret to Creating Jobs, Time, Febr 25, 2011