Angela Merkel's Nightmare: The Markets Test the German Chancellor's Approach of Trial-and-Error. Is There an End Game in Sight?

By Engelen, Klaus C. | The International Economy, Winter 2011 | Go to article overview

Angela Merkel's Nightmare: The Markets Test the German Chancellor's Approach of Trial-and-Error. Is There an End Game in Sight?


Engelen, Klaus C., The International Economy


As we go to press, German Chancellor Angela Merkel continues to display her characteristic political technique, a mixture of trial-and-error with "unilateral instincts," plus a hefty dose of nicht regieren, or non-governing. But sitting things out in a globalized world while managing the largest European economy m times of crisis can be damaging and very costly. This year, she faces seven state elections. There is a lawmaker revolt over pledges to defend the euro by providing more rescue financing, especially among the ranks of her weakened coalition partner, the liberal Free Democratic Party. Making matters worse, the newest opinion polls show that more than four out of five Germans oppose increasing the bail-out fund for the euro. Add to that the jolt that Bundesbank head Axel Weber, the German frontrunner to head the European Central Bank, has withdrawn his candidacy by announcing that he would not serve a second term as Bundesbank president.

Merkel has experienced a rapidly changing political environment since the eurozone crisis started early last year with the threatened default of Greece. She seems to realize that important segments of Germany's elite and a large part of the general population no longer want to serve as Europe's paymaster without more say in what is done with their money. Ill-feeling is growing against an ever-more-encroaching bureaucracy in Brussels telling Germany what to do. And there is resentment that the so-called "Club Med" countries along with a banking and corporate tax haven like Ireland now expect to be bailed out with German money on the grounds of European solidarity. Germans worry that their trusted Bundesbank is being taken over by Club Med central bankers who are ganging together to soften the euro.

As the international pressures mount on Berlin to do more to solve the euro crisis, Germany and France seem to be moving closer together, with not one but two odd couples: French President Nicolas Sarkozy and Merkel, and also their finance ministers, Christine Lagarde and Wolfgang Schauble. Lagarde is a renowned global corporate and banking lawyer by profession, and Schauble was former Chancellor Kohl's point man in organizing German reunification. The German-French cooperation comes from economic and financial necessity. Sarkozy has strong incentives to keep Merkel on his side, such as the high exposure of French banks in Greece and other peripheral eurozone economies, France's failure to keep up economically with global export machine Germany, the specter of a lost decade for la Grande Nation, and fear that France may soon lose its triple-A bond rating.

UNDER ATTACK FROM THE EU BIGGIES

Since late last year, ECB President Jean-Claude Trichet has called for a substantial increase in "quantity and quality" of the Luxemburg-based European Financial Stability Facility established in May last year. Its headline figure is 440 billion [euro] ($600 billion), but due to cash buffers and a guarantee cap, its lending capacity so far is only around 250 billion [euro]. In the meantime, EU finance ministers decided that the European Stability Mechanism, which will replace the present EFSF after 2013, will have a lending capacity of 500 billion [euro] ($675 billion).

The European Central Bank wants to rescue the euro by doling out easy money in order to keep weak eurozone sovereigns and banks with zero or reduced market access afloat. Trichet and his colleagues are eager to transfer much of the rescue job to where it belongs: the governments and their fiscal resources.

Under what was intended as a stopgap measure in May of last year, the European Central Bank has bought through its Securities Market Programme 76.5 billion [euro] worth of sovereign bonds of countries such as Greece, Ireland, and Portugal in an effort to keep down their borrowing costs. This much-debated program came on top of 60 billion [euro] purchased in the form of implicitly government-guaranteed covered bonds between July 2009 and June 2010. …

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