Strange Bedfellows: Germany's Split Personality in Its Relations with the International Monetary Fund

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When a decade of pervasive governance failures and institutional inadequacies in the seventeen-member European Monetary Union became apparent as Greek default loomed early last year, European leaders--with German Chancellor Angela Merkel in the lead--responded by kicking the can own the road.

When historians of European integration look back, they will find the leading German central bankers--such as Jurgen Stark, the outgoing chief economist of the European Central Bank, his predecessor Otmar Issing, former Bundesbank President Axel Weber, and the former Bundesbank chief economist Hermann Remsperger--never stopped sounding urgent warnings about disregarding the fiscal rules of monetary union. Stark, who negotiated the Stability and Growth Pact as Germany's deputy finance minister, was especially critical of the eurozone's failing fiscal governance. Considering that, unlike the United States, United Kingdom, or Japan, the euro area's central bank is backed by seventeen national central banks, lacks the role of "lender of last resort," and operates under the constraints of the EU treaty, the eurozone is not a safe base for sovereigns and banks under mountains of debt in the event that global investors go on strike and rating agencies downgrade euro assets.

"The sovereign debt crisis in the euro area is a symptom of policy failures and deficiencies in--among other things--fiscal policy coordination," argued Stark and some of his ECB economists colleagues in a recent paper. "The first nine years of the euro were not used effectively in order to improve public finances while the Stability and Growth Pact was watered down. Spillovers from the financial and economic crisis compounded fiscal difficulties in the euro area, especially in certain member countries."

But did the Bundesbank, forced by the politicians to replace the trusted deutschmark with a communized new currency, prepare itself for today's sovereign debt disaster? Did it look at what it could mean for its longstanding stake in the International Monetary Fund? Could this mean that one day euro area member debtors would ask for help from the IMF since the European Union was not able to come up with the necessary governance enforcement? What could all this mean for the character of the IMF as a cooperative monetary institution?

When the Greek crisis exploded, the German coalition government under Angela Merkel first tried to play for time. For as long as possible, Merkel tried to hide the emerging politically explosive burden-sharing consequences from voters. Resulting from a decade-long financial integration process in the eurozone, billion-euro rescue burdens were looming on the horizon, particularly from overextended, interconnected banking systems.

So fast, growing external financing gaps of peripheral euro members with unsustainable debt levels were shifted to the European Central Bank and the European System of Central Banks. But soon, departing from the rule book and breaking with the Bundesbank's long-held and defended doctrine--that the IMF has no financing role in the eurozone since there could not arise a balance-of-payment need for EMU member states--the Merkel government opted to call in the IMF as lender and provider of conditionality to Greece, Ireland, and Portugal. Germany assumed a split personality in its IMF relations.

To highlight the bone of contention, Bundesbank watchers at the time pointed to a letter to the editors in the Financial Times on March 30, 2010, by Jacques R. Arms, former deputy director of the IMF's European department: "If it looks like a duck, swims like a duck, and quacks like a duck, then it probably is a duck." IMF assistance to Greece could only be viewed for what it would be, namely budgetary assistance rather than balance-of-payment assistance. Said Artus: "Greece has a lot of pressing economic difficulties but a lack of foreign exchange to service a public debt denominated in euros is not one of them. …