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I can well understand the defiant mood in Germany today as it grapples with the crisis engulfing the euro zone. German anger is obvious and well founded.Over the last 10 years, while Spain, Ireland, Portugal, and others partied on low interest rates, the German people cut their wages, endured punishing structural reforms, and accepted the pain of 5 million unemployed in a drive to modernize their own industries.
Their sacrifices have brought them a large trade surplus and an 80 per cent rise in German exports to China.
No other country could have simultaneously borne the costs of bringing 16 million people from Eastern Europe into a unified state, or joined the euro at such an uncompetitive rate and yet still rebuilt their country’s exporting strength.
Germany now has Europe‘s strongest economy, and Chancellor Angela Merkel and the German people deserve praise for the German export achievement. But if that were the only story to tell, then the cure for the current crisis would be simple: Follow the German example of austerity, and, if that fails, even more austerity.
Three years ago, when the financial crisis first hit, the German government, like the rest of Europe, quickly defined the problem as an Anglo-Saxon one, and blamed America and Britain. A year later, as the financial crisis widened into a general economic crisis, the Germans retreated into even safer, more familiar territory, redefining the world crisis not as financial but as fiscal – one of deficits and debt.
As a result, Germany has denied any culpability for what has gone wrong. Indeed as long as it can argue that it is not a source of the problem, it can justify resisting costly measures to resolve it.
Yet according to the Bank for International Settlements, Germany lent almost $1.5 trillion to Greece, Spain, Portugal, Ireland, and Italy. At the start of the crisis German banks had 30 per cent of all loans made to these countries’ private and public sectors. Even today this one category of loans is equivalent to 15 per cent of the size of the German economy.
Add to that heavy German involvement in the credit binge in American real estate (half of America’s subprime assets were sold on to Europe), and in property speculation across Europe, and it is clear that wherever parties were taking place, German banks were supplying the drinks. The only party the German banks missed out on, one commentator has joked, was Bernie Madoff‘s Ponzi scheme.
As a result, Germany’s banks are today the most highly leveraged of any of the major advanced economies, a massive two and a half times more leveraged than their US banking peers, according to the International Monetary Fund.
Indeed, worried about the impact of stress tests on their credibility, German bank regulators have been hostile to the same disclosure and capital accounting requirements agreed on by every other euro zone country, and one Landesbank – the state-owned regional banks in Germany – went so far as to pull out of the tests the day before the results were released.
But why should this concern Germany, which is competitive, fiscally sound, and economically robust? Because all across Europe the poor condition of the banking sector is becoming a risk to recovery and stability. German banks, like other European banks, rely on raising short term funds, and in the next three years these already weakly capitalised and poorly profitable banks have to raise 400 billion euros from the markets, an amount that is nearly one-third of the entire euro zone’s €1.4 trillion in wholesale debt.
A few days ago, it was the turn of France – like Germany, rated AAA by credit rating agencies – to face market pressure because of its high levels of exposure to the euro periphery. Each country’s problems are unique, but, as the epicentre of the crisis moves closer to Europe’s core, Germany too may find its once unchallengeable image as a financial bastion called into question.
In the short term, Germany would be right to push for Europe-wide bank recapitalization, from which it would itself benefit. But it is also time for Germany to acknowledge that it must be integral to solving the problem because it is has been integral to the problem itself.
Of course, no one should expect Germany to transfer a large percentage of its wealth to the European Union‘s poorer countries on the same scale as other federal states – the United States, Australia, and others – but it must be persuaded that the crisis cannot be solved without a common Euro-bond facility, legislation for greater fiscal and monetary coordination, and a role for the European Central Bank that takes it one step beyond being the guardian of low inflation by adding a second role as lender of last resort.
In the end, Germany will have to agree to a common mechanism for Europe to pay its way out of crises. Germany’s recent failure to act from a position of strength endangers not only the country itself, but the entire euro project that Germany has spent decades developing.