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Germany Must Choose Emu Fusion Or Fission

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German Chancellor Angela Merkel is teasing Europe and deluding herself.

For all her fiery language in defence of the euro - as if a currency trading so high against the yuan, dollar, and sterling could be under meaningful external attack - Chancellor Angela Merkel has not yet agreed to pay one cent in help to crippled debtor states. Nor has she faced up to the elemental question hanging over monetary union.

Her own Bundesbank argued years ago that EMU is unworkable without fiscal union, and it has been vindicated by the events of the past two years. Either creditor states agree to an EU treasury, 'Transferunion' and debt pool, or EMU will be subject to unending stress and ultimately fracture or shrink to a viable core, or so goes the argument.

This 'Fusion or Fission’ debate has not been settled. Yes, there has been much talk about Eurobonds and rescues. Talk is cheap. The reality of Germany's 'rescue policy' is to extract subsidy from the periphery by lending to Greece and Ireland at rates far above its own borrowing cost, widening the gap between core and periphery yet further.

Ireland is paying 5.8pc for the EU part of its €67bn package, a crippling rate for a country that has been in core deflation and seen a 22pc contraction of nominal GNP. This is not a bail-out. It is not an IMF austerity regime either, since the Fund lends on terms that allow countries to escape from their debt traps.

All that has occurred so far is that Irish and Greek taxpayers have taken on fresh debt so that creditors do not crystallise losses. It remains a disguised rescue for North European banks and insurers. As the Left always warned, monetary union is a “bankers’ ramp”.


A few months ago, capital flight might have spread instantly from Portugal to Spain. Events have since moved on. Spain’s industrial orders and exports are recovering. Its fiscal deficit is narrowing fast. Its bond spreads no longer move in rhythm with Lisbon’s troubles.

Global growth has alleviated the liquidity crisis. I share the view of Albert Edwards at Societe Generale that this is a deformed economic recovery built on extreme levels of government debt across the West and highly-questionable use of monetary policy to inflate stock markets, but it may take some time for the chickens to come home to roost.


The Weber debacle comes at a bad moment. Germany is already in full cyclical upswing and needs higher rates, even as the South languishes in a slump. Jim O’Neill from Goldman Sachs said Germany had decoupled from Europe, becoming the first “developed BRIC” as supplier in chief to China’s industrial revolution. “The Germans are going to have to accept 3pc inflation, even if they don’t know it yet,” he said.

Or 4pc, or 5pc. Germany’s producer price inflation reached 5.7pc in January. The country is hitting capacity limits. Yet ECB rates are still 1pc. This has the makings of an almighty punch-up.

I've long said that a single interest rate is unworkable, either you set the rate for the boom area and you permanently cripple the weaker areas economically or you set the rate too low and create a huge bubble as the stronger area becomes even stronger. The imbalances in global trade aren't just limited between nations they exist within nations as well. Addressing these imbalances is a policy makers worse nightmare.

Labour in a sense attempted to do this by creating state jobs in economically weaker areas, but that just creates more problems.

Still it's all contained. I mean it couldn't possible get any worse....

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Germany is becoming so advanced with its mega scale industrial corporations that it is reaching absolute advantage.

Here is an example of the absolute advantage I am talking about. Peasant farmers in Vietnam who make less than 1$ a day, cannot compete with American farmers who make 200 times as much as they do.

Why? The American farmer is working with so much capital and techology that they are more than 200 times as productive.

Thats the situation I see developing in Europe. Even in Britain, even if the entire workforce at our industrial companies was paid 0.00, its not clear to me they could survive against German competition. The British corporate leaders in the 80's said we could smash Germany if we cut pay and benefits down to nothing, versus their high labour costs.

Edited by aa3
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Angela Merkel’s Christian Democrats have just suffered the worst defeat since World War Two in the Hamburg elections. Their vote share collapsed from 43pc to 21pc. A casualty of rising bread costs or Gefühlte Inflation as they say in Germany, perhaps, or bail-out rage?

Merkel will lose another three seats in the Bundesrat, reducing her to a lame-duck Chancellor.

This greatly complicate chances of an EU deal next month to sort out the rescue fund, ie:

To boost its firepower so that it is not caught with its pants down if trouble spreads beyond Portugal; to cut the penal interest rates on the Irish, Greek, (and Portuguese?) rescue packages so that these countries don’t suffocate to death.

To allow the fund to buy the bonds pre-emptively to nip crises in the bud; to carry out a “soft-restructuring” by lending to Athens (or Dublin) so that it can buy back its own bonds cheaply on the open market.

Markets are not going to like it if Germany fails to deliver on the new “joined-up” package that has been flagged so widely in the press, usually sourced to Eurocrats in Brussels who do not have to face their own taxpayers, and officials from countries that might need a bail-out.

As the ECB’s Athanasios Orphanides told the Wall Street Journal, the eurozone risks another investor panic if it does not get a grip soon. “The longer our political leadership delay in agreeing on a framework that will ensure stability, the greater the threat that we may have another crisis similar to what we experienced in 2010,” he said. Quite.

It is remarkable that this endless eurozone saga should still be going on amid robust global recovery (for now). But then EMU’s dysfunctional system is a remarkable beast, and has a remarkable ability to turn a largely successful and dynamic region into less than the sum of its the parts.

We must watch Germany closely, and not just the eight judges of the Verfassungsgericht in Karlsrühe – that den of incurable Teutonism and closet eurosceptics.

The German economic elites seem more worried about inflation brewing at home than the ups and downs of Club Med bond yields, and these concerns will be even greater after the IFO confidence for February reached the highest since 1969. The PMI manufacturing index also surged to 62.6.

It is a nice problem to have, but German economists looking one step ahead have good reason to be alarmed. As Jörg Kramer from Commerzbank said this morning, the ECB’s 1pc rate (and limitless support for EU banks) is “much too expansionary for a fast-growing Germany”.

Germany is at last becoming a victim of EMU’s one-size-fits-all interest rate. Join the club. It risks doing to them – though to a lesser degree, obviously – what it did to Ireland and Spain during the bubble when real rates (for them) were minus 1pc, minus 2pc, or minus 3pc, for year after year, with calamitous results.

Hard-working and unsuspecting Germans are about discover what it feels like to be mugged by the EMU project.

AEP seems on one today.

I've repeatedly said the one size fits all doesn't work.

The whole EMU project has been fatally flawed, I can't see how it can survive in it's present format, either we have full fiscal union ie single tax policies or it will fail. The imbalances are too great to be sustained for much longer.

The other point is the low ECB rate is to also help bail out reckless German banks that lent to other European nations.

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