Wednesday, June 27, 2012

Angela Merkel's policy for the euro crisis: put the pedal to the metal, head straight for the cliff

German Chancellor Angela Merkel going into the critical EU summit starting tomorrow (Thursday) has declared of one essential feature the eurozone will have to set up if they want the currency union to survive, Eurobonds, will never happen "solange ich lebe" - "as long as I live", which in American English we would say, it will happen "over my dead body". (Merkel erwartet Streit-Gipfel in Brüssel Spiegel Online 27.06.2012)

Yannis Ioannou in this June 7 cartoon depicts Angie (l) and IMF head Cristine Legarde (r) as mythological harpies reducing Greece and Europe to ruins:

As suicidal as it is for the European economy and the eurozone, Angie's approach is based on her own successful political career to date. She sees the role of Germany in the EU in much the same way she perceived West Germany's role in national unification: using its economic clout to push what it wanted through - but without the massive infrastructure and social investment made in the eastern German states.

And so far, she's gotten her way, even on something as plainly dumb and destructive as her fiscal suicide pact, aka, the Intergovernmental Treaty on Stability, Co-ordination and Governance in the Economic and Monetary Union.

Irish trade unionist Michael Taft said of the fiscal suicide pact with particular reference to Ireland:

The fiscal treaty will require substantially more austerity measures in the medium term. ... This level of austerity on top of what the Government has already planned could cut the nominal GDP growth by up to 2% and this, of course, will result in lower employment, driving up the live register and cutting wages and incomes.

The fiscal treaty will depress growth in the eurozone. ... Most eurozone countries will have to undergo some form of fiscal consolidation over the next two or three years which, in some cases, will be quite substantial. The German Institute for Macroeconomic and Economic Research estimates the effect of this fiscal consolidation on eurozone growth to mean that it will average a 0.5% each year up to 2016. That is how far down eurozone growth could be driven if the fiscal treaty provisions are implemented. ...

... the Government should explain why it is calling on people to give constitutional force to measurements and hypotheticals which it has dismissed as highly uncertain and unrealistic.

The fiscal treaty will limit the amount of counter-cyclical measures future Governments can employ during downturns. Take the example of the Irish economy falling back into recession later this decade. Under the fiscal treaty, we will still be required to run primary surpluses, that is, the budget surplus, excluding interest payments. Given this constraint, it is unlikely that automatic stabilisers will be allowed to operate in full, never mind proactive fiscal measures to counter the downturn. Nor should we rely on provisions for temporary departures in the event of a severe economic downturn. Spain is heading back into a full blown recession and yet no temporary departure is being allowed. The treaty has little to do with a sustainable counter-cyclical macroeconomic framework and all to do with self-defeating deficit reduction via deflationary fiscal adjustments.

The treaty will perpetuate instability in the eurozone - in the first instance by depressing economic growth during a period of stagnation. ...

The debt reduction rule will lead to an unsustainably low level of government debt, falling to levels of 20% of GDP or less. Government debt provides a secure investment for financial institutions, in particular pension funds and if this is removed such funds will be forced to introduce higher risks into their profiles and may end up creating bubbles in equities and property. [my emphasis]
It outlaws Keynesian counter-cyclical economic policies during recessions and depressions, which is another way of saying it outlaws Macroeconomics 101.

Yet she got the Irish public to approve the fiscal suicide pact. Just a few days ago, the German Social Democrats (SPD) and Greens caved in and agree to approve the pact in exchange for some mostly cosmetic concessions on countercyclical spending. Angie got her way, in other words, on what is a spectacularly bad idea by just charging forward with it.

The key political confrontation right now in the EU is between France with its new Socialist majority government and President François Hollande, who oppose approval of the fiscal suicide pact without substantial modifications to allow for stimulus, and Angie's insistence that France approve it as-is. Any modifications substantial enough to make it not a bad treaty would gut the "fiscal suicide" part of it, which for Angie is the heart and soul of the thing. Even small modifications would require a new round of ratification for countries that have already approved it.

Angie is a nasty piece of work. But she's an experienced and, up until now, a successful international leader, however destructive her EU policies are. Hollande is new in the Presidential office, and he's opposing the most powerful EU country over a high-stakes issue. Angie likely sees her deal with the (on this issue) passive and obedient SPD and Greens as a model for dealing with Hollande: toss him an insignificant bone but insist he approve what she really wants.

Ed Harrison gives this summary of the policy at which Angie is aiming: "what I expect to happen in Europe is that we will go from bailouts and austerity to bigger bailouts and austerity lite, buying some more sovereign bonds and pushing back fiscal targets but not changing the basic approach." (Germany is a first class passenger on the Euro Titanic Credit Writedowns 06/27/2012) But given Angie's dogmatic commitment to austerity - for other eurozone countries besides Germany - that summary may be too optimistic.

In terms of Hollande's ability to influence EU policy, he will effectively drastically reduce his ability to do so before he even gets started effecting any changes if he caves on the fiscal suicide pact. If he approves the pact in the current form, he's neutered himself as a potential leader of an alternative EU vision to Angie's. If he caves on this, other EU and eurozone nations will be reluctant to join coalitions with him to change Angie's policies.

The eurozone is in a precarious and unsustainable position, so Hollande may be able to recover later as things disintegrate. And, at the pace things are going, "later" could be a week from now. but "later" is very likely to be too late to save the eurozone. As Harrison puts it ("debt deflation" in the following refers to economic contraction driven by decreases in debt):

As we have witnessed, bailouts and austerity lead to economic contraction, missed targets and contagion and renewed crisis. And with each new crisis, Europe has been forced into more extreme policy measures and larger bailouts without making any amendment to the basic bailout in exchange for austerity approach to the crisis. After the Italian crisis, my thinking was that "Europe gets it", that European leaders finally understood that the dithering approach would fail and eventually take down the euro and the global economy with it. But I was wrong. Europe doesn’t get it and I now believe they will never get it. The debt deflation in Europe will move too quickly for European policy makers like Angela Merkel to change tack. [my emphasis]
The Angienator is determined to "stay the course", as Old Man Bush and his Presidential son both liked to say. Point the car toward the cliff, put the pedal to the medal, and stay the course.

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