Sunday, March 14, 2010

The burden of German thrift

The burden of German thrift
Published: March 8 2010 20:32 | Last updated: March 8 2010 20:32

Wolfgang Schäuble is keener on stability than growth. In response to the Greek debt crisis, the German finance minister wants to create new economic surveillance and co-operation structures to preserve the “internal equilibrium of the eurozone”. But what might look like a balanced European economy from Berlin looks like stagnation from anywhere else.

The most important part of Mr Schäuble’s proposal for a European Monetary Fund involves new instruments to prevent eurozone countries from accumulating large fiscal deficits. Berlin’s fiscal hawks are considering barring the profligate from receiving the European Union’s cohesion funds, removing their voting rights in ministerial committees and even suspending sinners from the eurozone – whatever that means.

The EMF is largely the product of European pride. The thought of the Washington-based IMF bailing out a eurozone country is intolerable. But a thin skin is a poor reason for institutional innovation. If this new body is to be set up, it must address the real problems within the currency union.

Forcing governments to live within their means will help to prevent fiscal crises. Mr Schäuble’s plan should also ease the nerves of German taxpayers, who fear being called upon as Europe’s lender of last resort. A mechanism for providing liquidity to eurozone governments could be helpful, too.

But if Europe were only to become better at stopping debtor nations from spending excessively and no defter at encouraging parsimonious peoples to consume, the future would be bleak.

This is hardly a novel insight. In November 1941, John Maynard Keynes proposed that “a country finding itself in a creditor position against the rest of the world as a whole should enter into an obligation to dispose of this credit balance ... the creditor should not be allowed to remain passive”. Quite right. A rebalancing achieved by forcing deficit countries to cut spending alone is an inevitably contractionary process.

Europe’s creditor-in-chief is Germany. Its economy, more than one quarter of the monetary union’s, is the iron heart of the eurozone. But its people remain ultra-frugal. So the German heart beats only weakly, buying very little from its neighbours. This must change, otherwise there will be no forces to counteract the fiscal contractions in the profligate nations. The continent’s smaller members may fall into prolonged recession as they struggle to balance their budgets.

Europe is more in need of a system to press surplus countries to consume than it is of further punishments for its already pummelled debtors. One reason to have an EMF would be to do this: to harass the overprudent as well as the prodigal so that deleveraging does not mean depression. But that is not what Mr Schäuble has in mind. His plan is to turn the paradox of thrift into the immutable law of the eurozone. Mr Schäuble’s EMF would be a destructive mistake. A scrimping Germany will be a greater burden for the eurozone than spendthrift Greece.

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