The Real European Stalemate
It's in Germany, not Britain.
14 May 2010
As the drama of Europe's debt crisis slowly unfolds, all eyes have been diverted to the wrong national subplot. The new Conservative-Liberal Democrat coalition in Britain is surprising and historic, but it is not the potential stalemate that matters most to Europe's future and its ability to contain the Greek crisis. That stalemate is in Germany, where a once widely admired politics of coalition and compromise has glued up. Three days after the British election, voters in the biggest German region or land—North Rhine-Westphalia—delivered a crushing blow to Chancellor Angela Merkel's authority, weakening her Christian Democratic Party so deeply that it will lose control over legislation in the German Bundesrat, or senate. Mrs. Merkel has lost her narrow Bundesrat majority and with it the ability to push through difficult and unpopular tax and public-spending policies.
In the past this would have been an internal German problem. But with Berlin at the epicenter of the euro-zone crisis of political and economic confidence, it is a global problem. Still by far Europe's richest and most successful economy, as well as the biggest contributor to EU funds, Germany will finally have to ask itself a long-avoided question—what kind of Europe should really exist?
That debate has yet to begin. German politicians are squabbling along old lines, with economic liberals arguing for cutting taxes and spending on the welfare state, and Social Democrats calling the liberals cruel and unjust. What both sides fail to address is that the basic growth model is in trouble. Germany has prospered as an export juggernaut in recent years in large part by exploiting free-trade rules within Europe, and to keep that model working Germany has to bankroll the neighbors it needs to import German goods and capital. That means the likes of Greece, Portugal, and Spain. But having made huge sacrifices to pay for German reunification, and then again to hold down workers' pay over the last decade in order to strengthen German export industries, Germans are in no mood to bail out the profligate Greeks. As a result they are feeding the crisis.
Why cannot every European nation be like Germany, sigh its pundits. If only feckless Greece and housing-crazed Spain tried harder to balance budgets and build productive industries like Germany. But no one in Germany is prepared to admit that German wealth comes from the rest of Europe buying German goods or using German banks. In return, Germany refuses to import from its EU partners at anything like the rate it exports to them and refuses to boost internal demand either by raising wages or breaking down social and church barriers in a deregulated U.S.-style market.
Thus Germany needs the euro zone more than the euro zone needs Germany. If Greece is followed by other big deficit nations that start to default or devalue, German banks and German exporters will take a huge hit. If the euro zone disintegrates, barriers to trade will emerge overnight. Why should Italian olive oil producers allow Greek olive oil exporters to gain an enormous advantage by switching from the expensive euro back to the cheap drachma? Open trade cannot survive in Europe if nations revert to using their own currencies for competitive devaluations. German leaders understand this but do not want to spell out these risks when voters prefer to hear critiques of lazy Mediterranean nations.
Europe, including Britain, has tried to act. EU leaders came up with a package of nearly $1 billion to stop speculation. The European Central Bank has torn up its own rules by buying government debt. This moves the ECB from being an interest-rate setter and issuer of notes to a major economic player, undertaking tasks normally reserved for government. But this intervention cannot stop countries from running up greater deficits unless governments are willing to make more of their tax, spend, and trade decisions collectively. That means telling Germany to import more and raise internal demand.
Thus, the triple stalemate for Germany and Europe. To solve Greek-style crises, Europe needs more power over national governments. To keep the euro zone afloat, Germany has to put off the tax cuts German voters clearly want. To get EU growth going, Germany cannot do all the exporting. Emergency measures have contained the crisis so far. But the lack of leadership in Germany clouds the EU's future.