Wall Street Journal
February 14, 2011
by Irwin Stelzer
The bond market, says Dr. Holger Schmieding, chief economist at Germany's Berenberg Bank, has given Europe a wake-up call. That is certainly true. And the euro zone will emerge "stronger and more coherent from the crisis."
That remains to be seen. We don't yet know whether the eurocracy awoke from its policy slumber or merely pushed the snooze button, to rest up for another round of meetings, these to resume on March 11 and 24-25.
Developments in Germany are less promising than they seemed a few weeks ago, when Chancellor Angela Merkel discovered her inner European, and prepared to sign on to a grand bargain, with French President Nicolas Sarkozy cheering her on. Germany will take on the burden of funding the euro-zone periphery, and in return the financially strapped nations would institute substantial reforms and accept significant German control over their fiscal affairs.
One reason Ms. Merkel felt she could sell that to her very reluctant electorate was that the presidency of the European Central Bank would pass to an inflation-fighting German when Jean-Claude Trichet's term comes to an end. And she had the perfect German in mind: Axel Weber, head of the Bundesbank and reassuringly opposed to any policies that might trigger inflation. But Mr. Weber decided that his anti-bailout views could not command majority support at the ECB or among euro-zone governments, and to Ms. Merkel's fury stepped down from the Bundesbank, effectively withdrawing as a candidate for the ECB job.
It is now highly unlikely that a new German candidate of Mr. Weber's stature will emerge to contest, among others, Bank of Italy Governor Mario Draghi, for the crucial ECB job. No one doubts Mr. Draghi's qualifications, but he carries two bits of baggage—his former employment as vice chairman of Goldman Sachs, widely believed to have helped Greece plumb the depths of fiscal irresponsibility, and Prime Minister Silvio Berlusconi, not currently at the peak of his prestige in eurowide circles. Besides, the ECB vice-presidency is held by Portugal's Vítor Constâncio, and there is a disinclination, especially now, to have two executives from the south of Europe.
Although some consider Germany's Klaus Regling, head of the European Financial Stability Facility (EFSF, or bailout fund), a potential candidate, most observers see him a very dark horse indeed. With the ECB job most likely out of reach— "Germany has never insisted that the next ECB president be a German," Finance Minister Wolfgang Schäuble now says—Ms. Merkel can no longer assure her voters that an anti-inflation hawk will head the ECB. So her only hope of selling her voters on the idea of Germany as the financier of last resort for profligate countries is to show that these nations have forsaken their past ways, and are becoming more German in their attitudes towards economic management. That she hopes to do by having them sign on to a "competitiveness pact."
Which raises two very important problems. The first is that the countries in need of further bailouts are not reliable signatories to the deal, and other countries have expressed no enthusiasm for the labor market and entitlement reforms that form a key part of the pact. Greece, which just received approval for another tranche of the bailout cash, already requires more time than initially agreed to repay the bailout loans it has received, and a reduction in the interest rate it is being charged. The Economist reports that Greece has missed deadlines for cost-cutting and revenue-raising, and is dragging its feet on pension and labor market reforms. It is also moving with less than alacrity on promised privatizations. With an economy that could shrink by 3.5% this year after contracting 4.2% last year, and an unemployment rate headed towards 15%, Greece might some day benefit from some of Ms. Merkel's reforms, but not before it restructures its sovereign debt, the nightmare German aid is designed to prevent.
Spain, with unemployment running at 20.3%, can only aspire to Greece's woeful 15% jobless rate. Nevertheless, the wage deals cut in January call for increases of very close to 3%, well above last year's average of 1.3%. Citigroup notes that these "reaccelerating wages are likely to delay further any real attempt at job creation and hope of stabilization of the unemployment rate."
Meanwhile, Ireland, another country already living on bailout funds, is now guessing that the money it has received will not cover the remaining losses of its banks, and its incoming government will undoubtedly ask for better terms for the loans it has received and the additional funds it will request.
The situation in Portugal is no more promising. Interest rates demanded by buyers of its 10-year bonds are now above 7%, a level most analysts feel is unsu-stainable. The economy has not grown in years. A recent Central Intelligence Agency survey notes that Portugal's GDP per capita is two-thirds of the EU average, the educational system is poor, the labor market rigid, its growth prospects low and public debt high.
Little wonder that private sector investors are reluctant to make funds available, or that Ms. Merkel has a long way to go to persuade her voters to yoke their fortunes—based on hard work to achieve global competitiveness— to those of Portugal.
The proposed competitiveness pact addresses none, or at best a very few, of these near-term problems, and, with provisions calling for an end to tax competition, might just make the long-term situation worse. Ms. Merkel might want to rethink just what she is asking her voters to endorse.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.
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