EU: Revival of Germany’s Fiscal Darwinism?

Following a newspaper commentary by Germany’s Economy Minister,Philip Roesler, which stated that bankruptcy should be an option for addressing Greece’s debt problems, European markets dropped sharply.

As confidence in Greece’s ability to control its public debt continues to weaken, the previously resolute German outlook has turned about, with bankruptcy and a return to the drachma no longer being considered unlikely resolution.  The pessimistic outlook has brought the German DAX below 5,000 points at the open of Monday and the euro fell to a 10-year low against the Yen.  Both Roesler, vice-chancellor and leader of pro-business Free Democratic Party (FDP) and FDP General Secretary Christian Lidner have voiced pessimistic (realist?) remarks about the need to consider worst-case scenarios for the future of Greece.  The comment represent a significant shift in the discourse in the German government.  Germany has provided the largest share of financing for Greece, following a reasoning that the political consequences of Greece’s default are more destabilizing than the economic consequences.  At this juncture, it seems that Greece;s debt problems may be too big for the Euro-zone to solve.

“In order to stabilize the euro, we must not take anything off the table in the short run.  That includes as a worst-case scenario an orderly default for Greece,if the necessary instruments for it are available.” – Philip Roesler, vice-chancellor, Germany Economy Minister and leader of the Free Democratic Party

Compared to the remarks by the FDP, Horst Seehofer has taken his frustration further.  Mirroring the general public’s Euro-skepticism, the state premier of Bavaria and leader of the Christian Social Union (CSU) stated that Greece may need to leave the 17 member Euro-zone group and reintroduce its previous currency, the drachma.  The remarks serve as a precursor to an expected approved motion by the CSU that calls for highly indebted states to leave the Euro-zone.  As Germany increases its criticism of the ECB and the general regulatory and fiscal systems of all indebted nations, the history of Germany’s leadership of the European Monetary Union (EMU) resurfaces.  In the late 90s, the European Community began to address the necessity of EU integration into a single currency.  At this stage, Germany’s mark soared above all competitors and in order to maintain the stability of Germany’s post-reunification,Germany raised its interest rates.  Inasmuch, the Bundesbank wanted to warn the EU,the message was that high inflation would not be tolerated and that a form of monetary Darwinism would weed out the noncharter members of the EMU.  Germany’s experience of hyperinflation in the 1920s forged an anti-inflationary consensus that accounted for the Bundesbank’s preoccupation with price stability and determination to make it the primary objective of the ECB.  Along with the German sponsored Stability and Growth Pact of 1997, developed by the Economic and Financial Affairs Council (Ecofin), Germany demanded restrictions on budget deficits under a ceiling of 3% or else the violators would face automatic penalties.  However, Germany’s hard-line stance has chipped away, seen by its dedication to uphold the indebted nations for Greece, Italy, Ireland, Belgium, Spain and Portugal.  Apparently, the fiscal Darwinists of the late 190s disappeared at the on start of the current crisis.  Nevertheless, the current rise of pessimism (realism?) in Germany may represent the rejuvenation of monetary Darwinism in Germany.

“Europe is not just lurching from one crisis to another.  It is lurching into a new one before the previous one is solved.”  – Makato Noji, senior strategist at SMBC Nikko Securities.

In conjunction, the resignation of Juergen Stark, Germany’s policymaker within the ECB, may lead to the much criticized bond-buying program of the ECB to disintegrate.  Though underscored by internal divisions, the program was one of the bank’s main weapons to fight the debt crisis by forcing yields on the debt of countries under pressure from the bond markets.  Without such aid, the indebted nations will be facing much more pressure to resolve their debts through individually enforced austerity cuts and taxes.  International leaders last week threatened to withhold a sixth bailout payment of about 8 billion euros because of repeated fiscal slippage and Athens has states that is has only enough funds for a few more weeks.  Merkel’s government has already begun discussing how to strengthen German banks in case Greece fails to meet the budget-cutting terms of its aid package and is unable to get a bailout-loan payment.  A haircut of 50%  will be necessary on the Greek debt to ensure its survival and its bailout-loan.  In response, Greece launched its latest attempt to please its debtors and reduce its massive budget deficit. Prime Minister George Papandereou introduced a new property tax on Sunday, as well as new budget cuts totaling some 2 billion euros.  Olli Rehn, the EU Economy Commissioner,praised the measures but the majority of the European Union doubts that Greece will be able to tackle its crisis through such measures.

“The outlook for Greece is completely unknown.  Support for the country appears to be shaking.  The market is starting to think the worst could happen.” – Katsunori Kitakura, chief dealer at Chuo Mitsui Trust and Banking

Germany will decide on a course of action after receiving the results of a Greek progress report.  As seen in the budget cuts and taxes, the Greek Cabinet is trying to impress upon the community its dedication to reform.  Yesterday, the Cabinet voted to cut on month’s wage of all elected officials and impose an annual charge on all property for two years.  Nonetheless,the ECB President Jean-Claude Trichet said that the downside to the region’s economy has intensified.  Traders are betting that the ECB will cut rates by .37% points in the next 12 months.  That compares to a 35-basis-point increase projected on August 1st.


8 responses to “EU: Revival of Germany’s Fiscal Darwinism?

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