German tax payers will not pay other people’s debt. This is in substance what the Chancellor, Angela Merkel, told the Frankfurter Algemeine Sonntagszeitung, June 3, when she said there could be no “union of the debt.” The comment was in response to news out of Italy that the new ‘populist’ coalition wants the European Central Bank to forgive 250 billion euros in Italian debt. The problem is, when you forgive debt, someone has to pay, and in Europe, that someone is Germany; the only EU country whose economy is strong enough to prop up the euro.

 

Very limited but powerful European Monetary Fund

In the interview Merkel also once again rejected French President Emanuel Macron’s  idea there should be a European Finance Minister with a budget of several hundred billion euros to run a European Monetary Fund, EMF, to be used as investment in struggling EU economies. The Chancellor did accept the idea of the creation of a limited investment fund of several tens of billions of euros but with very strict conditions.

The European Monetary Fund proposed by the German coalition would be used to come to the aid of countries in difficulty. But those countries would have to submit to close oversight in the way they manage their affairs, much like what the IMF and the EU have been doing in Greece. “We want to render ourselves a little more independent from the International Monetary Fund,” she said.

In clear text, if the Germans are going to come to your aid, they want the power to tell you how to run your economy. “The countries concerned,” writes franceinfotv quoting Merkel, “must accept — as it is with the IMF — that the EMF has the right of inspection and intervention in national policies. This EMF would be in charge ‘of evaluating the solvency of member States’ and with the help of ‘the right tools’ could ‘reestablish’ this solvency if it is not assured.”

It is exactly the rejection of German economic dominance over European countries that led Italian voters to put a populist government in power. But with Italian debt at 130% of GDP, the Germans have a strong case to argue that it is a crisis of their own making. Why should hard working German tax payers bail them out? Especially given that Italy has done little to reign in its ‘black economy’ which in 2015 was worth over 200 billion euros or 13% of GDP.

Italians reacted angrily to a statement by the European Budget Commissioner, Guenther Oettinger, a German, on May 29, when he said, in essence, that the financial markets will teach Italians how to vote correctly. (1)  Oettinger was forced to apologize after the EU Council President, Donald Tusk, called on EU institutions to respect voters.

Oettinger is right about the pressure big finance can put on a country.  Italian bond rates rose to double those in April and the Milan stock exchange was hard hit by the political uncertainty. As the new coalition government takes charge, there are no signs that any certitude is on the horizon. Nor debt relief.

Macron needs Merkel’s support

French President Emmanuel Macron’s approach may be more diplomatic, or slyer, but the goal is the same as the other heavily indebted countries: get Germany to foot a good part of the bill. The French debt is 100% of GDP and French exports have been in a free-fall for 15 years. Macron is trying to reform the country’s labor laws and investment and tax rules to spark growth and bring in foreign capital. But any reforms will take at least ten years to bite in, as they did for the 2003-2004 German reforms known as Hartz IV. Macron’s idea is to get German capital to boost euro zone economies through direct investment and, he hopes, beat back social unrest in France due to his reforms.

 

Because Germany is so strong, the Euro is strong; too strong for weaker economies like Greece, Spain or Italy and even France. Many on both the right and the left in Italy and France are calling to leave the Euro. Leading economists in Germany, such as Hans-Werner Sinn, in reaction to the European debt crisis, would like to see the creation of ‘a Northern Euro’ which would exclude “the olive tree shakers” or PIGS (Portugal, Italy, Greece, Spain). Sinn (2) puts France in the latter category.

 

These are very dangerous times. The EU is running scared and up against the ropes. Critics accuse Brussels of being a bunch of “unelected technocrats” who “infringe on the national sovereignty of nations” to impose the will of “bankers and financiers” to the detriment of working people.  All recent elections have shown that this is a message more and more European voters are hearing. The Germans are caught between a rock and a hard place. Just as Europe must unite to face a trade war with Trump, it risks seeing the euro plunge into a much deeper crisis than that created by Greece (Italy is Europe’s fourth largest economy — too big to fail); a crisis which could, not only condemn the euro but, unravel the whole European project.

To prevent a total collapse which would sink German banks too, Merkel has a strong ally in Emmanuel Macron. She may have to pay a bit more, after all.

 

NOTES:

1. In an interview with Deutsche Welle, Guenther Oettinger said: “My concerns and expectations are that the coming weeks will show that developments in markets, government bonds and Italy’s economy could be so drastically impacted that they serve as a signal to voters not to vote for populists on the right and left.”

2. From wikipedia: In July 2012, Sinn was one of the eventually more than 270 signatories of an open letter written by Walter Krämer of the Technical University of Dortmund against Chancellor Angela Merkel’s Brussels agreement on direct recapitalization for ailing European banks.^[41] Economics professors Frank Heinemann of Berlin and Gerhard Illing of Munich drafted a public answer, arguing that a “banking union” in the sense of common supervision was, in fact, critical to saving the euro, but they also objected to bank recapitalisation using the taxpayers’ money. This letter also attracted more than 200 signatories from the banking and the academic communities. The “momentous tiff”, as The Economist dubbed it, has in the meantime become more nuanced, with Krämer and Sinn publishing a more muted version in which they endorsed a banking union based on the bail-in principle. Sinn joined Heinemann and Krämer in publishing a joint appeal on the issue in Plenum der Ökonomen, an internet forum of German professional economists. https://en.wikipedia.org/wiki/Hans-Werner_Sinn