He Would Say That Wouldn’t He II

In some ways I think this story may run and run over the months to come. Bloomberg have an update on their earlier article. According to the latest account:

1/. The German Finance Ministry have declined to comment on the Stern report that discussions took place last week between Finance Minister Hans Eichel, Bundesbank President Axel Weber and various economists on a possible failure of European Monetary Union.

2/. Stern magazine have been forced to pre-release the article today: it asserts that the above mentioned group discussed a scenario for the single currency’s collapse as differences in inflation and growth rates within the union grow. An internal ministry document formed the basis of discussions. (All this, as I keep saying is perfectly plausible, since it describes a reality – the difference in inflation and growth rates, and incidentally balance of payments situations – the scenario is simply that, a scenario, a thought experiment. This reality is only really strongly denied by the Chief Economist at the ECB Otmar Issing).

3/. The Finance Ministry – in the shape of spokesperson Sandra Hildebrandt – has clarified that it “doesn’t comment on internal papers or meetings”. This implies, since there is no denial, that there was a meeting and that there is a paper.

4/. Stern suggest that Fels said: Inflation and growth differentials “can lead to a meltdown in a couple of years, the collapse of the euro,” . This doesn’t especially ring true as I have strong doubts that he would commit to a time scale. This sounds like journalese. Not what he said in a meeting. And since Fels is now ‘missing’ (possibly he is the most wanted man in Europe right now) I doubt they would have got this out of him in a phone interview.

What is Fels saying:

“I think, that Europe is on a slippery slope towards disintegration and instability — a stunning reversal of the long march towards integration and stability in the last half-century. Of course, nobody can confidently predict the endgame of such developments.”

“First, political disunity within Europe raises doubts about the long-run viability of the euro.”

“a disunited Europe could also lead to plausible scenarios characterized by fiscal and monetary instability in which some member states would want to leave the single currency. Investors in long-dated eurozone bonds have to factor in the break-up risk and should demand a premium in bond yields. Needless to say, the permanent spectre of a potential break-up should also make it difficult for the euro to rival the dollar?s status as a reserve currency.”

The above can be found here.

Again:

“Far more worryingly, the European Union (EU) appears to be heading for a serious political crisis, which could, eventually, even put the single currency at risk. The currency markets may have started to smell these risks: the euro failed to rally against the dollar last week despite a larger-than-expected US current account deficit and accumulating signs of a slowing US economy.”

This was back in April.

I would happily sign on the dotted line to any of this, but it is nothing like what Stern attribute to him.

5/. The document also asserts that: “The gap risks widening, so that the danger of an adjustment crisis is growing bigger,”. This is plausible, in particular since it is true.

6/. And possibly most interestingly of all: Germany’s lower house of parliament has commissioned a legal opinion on a possible reversal of EMU and the right of one of its members to leave the currency. This is asserted by Stern. I have no idea if it has any validity, but it would be surprising if they made this claim without backing. My impression is that someone somewhere, probably someone who has been against the euro from the begining, is leaking.

Lastly Stern claim: ” The introduction of the euro has cost Germany its former advantage of lower financing costs, which partially explains why it’s lagging behind the other euro members”. This is balderdash. The ECB rate is extremely low by historic standards. The rate could and should come down to meet Germany’s present needs, but that is not what Stern appear to be saying.

The interesting question now is whether the euro will become an election issue in Germany. Over to Brussels and Frankfurt tomorrow.

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About Edward Hugh

Edward 'the bonobo is a Catalan economist of British extraction. After being born, brought-up and educated in the United Kingdom, Edward subsequently settled in Barcelona where he has now lived for over 15 years. As a consequence Edward considers himself to be "Catalan by adoption". He has also to some extent been "adopted by Catalonia", since throughout the current economic crisis he has been a constant voice on TV, radio and in the press arguing in favor of the need for some kind of internal devaluation if Spain wants to stay inside the Euro. By inclination he is a macro economist, but his obsession with trying to understand the economic impact of demographic changes has often taken him far from home, off and away from the more tranquil and placid pastures of the dismal science, into the bracken and thicket of demography, anthropology, biology, sociology and systems theory. All of which has lead him to ask himself whether Thomas Wolfe was not in fact right when he asserted that the fact of the matter is "you can never go home again".

28 thoughts on “He Would Say That Wouldn’t He II

  1. The interesting question now is whether the euro will become an election issue in Germany. Over to Brussels and Frankfurt tomorrow.

    Unless something drastic happens, no. There’s not enough time to make such a radical shift in policy of either big party.

    However, how do you imagine one could discuss the viability of a currency for months? This seems unlikely to me considering that such a discussion is likely to feed on itself. Wouldn’t it either die quickly, or lead to the feared result, but in any case quickly so?

  2. >The interesting question now is whether the euro
    >will become an election issue in Germany. Over to
    >Brussels and Frankfurt tomorrow.

    No. It won’t – not for the serious parties at least. I think a lot of people a are now smelling an opportunity to settle personal accounts with (temporarily) weakened EU. The Euro never had too many proponents in Germany among economists, if you remember the debate in the 1990s. I once sat in a J?rgen von Hagen lecture in which he explained the benefit would be the equivalent of three packs of cigarettes… oh but the risks. The lower house issue might well be an interesting exemplification of Schroeder’s claim to have lost his structural governing majority. Don’t forget that Schr?der was thinking about nominating Peter Bofinger, who has made extremely clever arguments about the Euro in the 1990s, for the ECB directorate.

    I still think Willem Buiter is right: Buiter, Willem H. (1999), “Alice in Euroland,” CEPR Policy Paper No. 1., “great idea, partly questionable execution”

  3. “The Euro never had too many proponents in Germany among economists, if you remember the debate in the 1990s.”

    Exactly so.

    From a reposted report originally in the Financial Times of 9 February 1998:

    “More than 150 German economics professors have called for an ‘orderly postponement’ of economic and monetary union because economic conditions in Europe are ‘most unsuitable’ for the project to start.

    “The call to delay Emu ‘for a couple of years’ is made in a declaration signed by 155 university professors and sent to the Financial Times and the Frankfurter Allgemeine Zeitung newspaper in Germany. It signals intensified opposition to the government’s euro policy.

    “The declaration was organised by Manfred Neumann, professor of economic policy at Bonn university and chairman of the Bonn economics ministry’s council of expert advisers. It signals concern among professional economists about Bonn’s determination to begin the single currency on January 1 1999.

    “The declaration that ‘the euro is coming too early’ will press the government to explain its policy in economic terms. The statement points to the failure of large European Union states to meet the economic criteria for membership in the Maastricht treaty of 1992 and highlights worsening structural problems.

    “Postponement, it says, ‘has to be seriously considered as a political option’. The professors do not oppose the euro, but make clear that Emu’s success is more important than a prompt start. . . ”
    http://www.internetional.se/9802brdpr.htm

  4. “The Euro never had too many proponents in Germany among economists,”

    Yes well, if only they’d listened to the economists…..

    Going back to Henry’s point about the French vote opening up debate, well in a way it is, and issues like the euro, which really cross parties, can come to the fore in this debate. Obviously it is highly improbable that either of the parties will adopt anything resembling euro exit in their programmes, but this doesn’t stop it being an issue which is debated. This is the ‘new environment’.

    The euro also seems to be coming up as an issue in the Dutch referendum, much more than it was in the French one.

    The argument is similar to the kind of thing that is knocking around the Stern stuff: that reducing wage costs is too slow, the mark was over valued on entry, and what we now need to do is get the deutschmark/gilder back and devalue. Strangely enough that is what the Italians want.

    Maybe the real problem behind all of these arguments is the reserve currency component externality: ie that the combined currency has a higher value then any of the individual ones would, since it is used as a reserve asset by central banks, those with petro dollars etc.

    ie precisely the free ride everyone thought they were going to get is what comes back to haunt them.

    “how do you imagine one could discuss the viability of a currency for months? ”

    I think in a way this is inevitably what is going to happen, since there is no, short term resolution available. Of course, if a decision ever was taken to leave, it would be taken rapidly, and without debate. You are right here.

    But things would have to get to a really bad state for that to happen. I don’t think Germany will choose to leave, I think Italy will have to.

  5. Incidentally, Stern are also running a piece on a survey which says that 55% of German voters would like to see the mark back.

    Can anyone help me with translating this.

    “Eine Aufl?sung der W?hrungsunion ist rechtlich m?glich, auch wenn dies im Maastrichter Vertrag nicht vorgesehen ist. Dies geht aus einem bisher unter Verschluss gehaltenen Rechtsgutachten des Deutschen Bundestages hervor, das dem stern vorliegt. Sowohl eine “einvernehmliche Aufhebungsvereinbarung” als auch ein “au?erordentliches K?ndigungsrecht” bei “Wegfall der Gesch?ftsgrundlage” seien nicht ausgeschlossen. Das Fazit des Gutachtens lautet: “V?lker- und europarechtlich l?sst sich (…) die M?glichkeit einer Beendigung der Wirtschafts- und W?hrungsunion ?ber die einvernehmliche Aufhebung der Gemeinschaft insgesamt vertreten.”
    ..”

    My rudimentary German tells me it is to the point, but I can’t follow some key points which make all the difference.

  6. a dissolution of the currency union is legally possible, although it is not explicitly envisioned in the treary of Maastricht. This is following from an expert legal opinion kept confidential the lower house had requested which is in the possesion of Stern. A “multilateral agreement on dissolution” as well as an “extraordinary withdrawl” at a “loss of an operating basis” are not excluded, The gist of the oppinion is: “under the law of nations and under european law one can hold the oppinion … that there is the possibility of finishing the economic and currency union by mutual agreement.”

    IANAL and legalistic English is not my strength.

  7. Dissolution of the eurobloc would mean an opportunity for political extremism(euro now, EU next, kiss free trade goodbye) – we wouldn’t be rolling back just 10 years, we might end up going back 70 years… and back to bloodthirsty apes scraping in for survival in the new dark ages.

  8. clarification: “although” might be replaced with “despite”. The formulation is ambiguous.

  9. I think we all need to sit back and relax a bit. The Euro is going to stay. The EU is going to stay. The no is bad, but it’s hardly lethal. What’s surprising is how many people seem to believe it could be if they only use this opportunity to hit hard enough. It’s not gonna happen.

  10. re Bob B’s comment above, as someone who was deep in financial markets at precisely that period, I say with some confidence that by February 1998, Europe could have had order, or it could have had delay. But it could not have had both.

  11. “clarification: “although” might be replaced with “despite”. The formulation is ambiguous.”

    Thanks for your efforts on my behalf Oliver. Presumeably this legal asessment actually exists and was requested by the lower house. Do you have any info, feeling on this?

    The whole thing reminds me of the recently discovered clause in the constitution treaty that if 20 out of 25 are in favour they can then decide what to do. Before the French voted no, I didn’t see this mentioned anywhere.

    The same with the euro. Exit is impossible, except, just a minute, in the line here it says something, oh yes, here it is, A “multilateral agreement on dissolution” as well as an “extraordinary withdrawl” at a “loss of an operating basis” are not excluded, well well well, funny we didn’t notice that before….

    “we might end up going back 70 years…”

    passerby, I’m not taking this lightly. I always thought the euro was ill advised, but once it was introduced I’ve accepted it, and if you look at my posts, I try to argue things about eg the Stability and Growth pact on how to make it work. But it may not work, and if it doesn’t then we need to analyse what is happening.

    Certainly in the last week it has taken more of a bashing than it has in its whole existence, and we aren’t finished yet.

  12. “The Euro is going to stay. The EU is going to stay.”

    The EU is clearly going to stay. I think the jury is now out on the euro. Not because of what Stern says in its article, but because the absence of a constitution, the ongoing economic malaise, the problems of enforcing deficits, well a whole series of problems are going to make it difficult to operate.

    But read what I say, and what Fels says, we are not talking about tomorrow. I wouldn’t put any time scale. It’s just that from now on the problems are only going to accumulate. That at least is my opinion. And lets be clear, since Fels has the same view, then the head of your central bank and your finance minister at least felt these opinions were worth listening to. This is not some scaremongering panic.

  13. >Not because of what Stern says in its article, but >because the absence of a constitution

    Maybe calling the latest treaty consolidation a “constitution” was a mistake on a psychological level.

    As for economic problems – imagine Europe’s core economies without the Euro – what would be different. Some countries would have marginally higher interest rates, certainly higher costs of borrowing, Germany might have slightly lower interest rates. Would *that* be the cure for our institutional economic problems? I don’t think so.

    the optimum currency area may not be the world. But let me again say that I think many of those who opposed the Euro in the 1990s never read the second half of Mundell’s theory of optimum currency areas: Money is also a convenience.

    >It’s just that from now on the problems are only >going to accumulate. That at least is my opinion.

    Well… I hope you’re wrong in this respect, Edward 😉

  14. “Would *that* be the cure for our institutional economic problems? I don’t think so.”

    I agree with this. The euro is not the problem as such in Germany. But having lower interest rates wouldn’t do you any harm. I think the difficulties are going to come from an altogether different quarter, and we will see this when the disciplinary proceedings start over the new Stability and Growth part.

    Anyway, I will try and take your advice of sitting back and relaxing for a bit. It has been a hell of a week, and it isn’t over yet.

    Tomorrow may well be the big day for immediate decisions.

  15. Nobody really expected the Schlieffen Plan, and I have no doubt the German Finance Ministry didn’t expect the “inquisition”! Nonetheless there’s usually no smoke without fire.

    I tend to agree with Edward on this. Monetary unions without first putting in place political union do not have a happy history. The EU has done it all back to front, not to mention that it has all been too much too fast, and without much democratic consultation.

    The future is bright – the sun will come out tomorrow even if the ?uro falls again; not so very long ago it was worth a mere 82 cents.

  16. Presumeably this legal asessment actually exists and was requested by the lower house. Do you have any info, feeling on this?

    Given the scandal about certain diaries I am very sure that Stern has a document and has made very sure that it is not an outright forgery. The exact story of its genesis is another matter.

    However, questioning the success of european integration is a very strong taboo. I am reserving any further judgment about this at least until I’ll have read the article.

    What I have a feeling about is another thing. There is no such thing as a currency whose viability is threatened only in the medium and long term. A currency is either secure or it is not. There is very little middle ground.
    If the Euro fails, and that’s a big if, it’ll be soon, meaning this year.

  17. Has anybody actually thought about what would be involved in splitting up the Euro area again ?

    This is not a minor project that can be done overnight, even if some government might deicde overnight to do it.

    Remember all the preparations and logistics that went into creating the Euro ? Minting new coins and paper bills, dsitributing them, stabilising the currencies before and after the split, preparing business software, paper forms, all kinds of machines that accept coins, etc.

    I think a nation would need waht they think of as a *very* good reason to go to such troubles.

    Eastern Europe saw several such split ups not so long ago (Soviet Union, Czechoslovakia, Jugoslavia). Does anybody have information on the way things went financially at the time ?

  18. I believe it would be irresponsible, not to mention a gross failure in duty, for the Bundesbank and the German Finance Ministry not to have a plan for the event that membership of EMU becomes a liabilty, or that EMU collapses due to the actions of one or more other member states.

  19. This is not a minor project that can be done overnight, even if some government might deicde overnight to do it.

    If it is to be done than it can be done only overnight. This is a thing you cannot announce beforehand. Otherwise there would be absolutely crazy movements of money. And you cannot let hang the economies in the unknown for weeks. So the transition itself must be quick.

  20. OK, I have read the article. The legal oppinion was requested by Peter Gauweiler, MdB. He is a famous critic of further european integration. However, it was not just some random legal oppinion, but the oppinion of the official lawyers of the lower house of parliament.

    The article itself is very, very strong stuff. For Stern’s level it is “J’accuse” and quite unprecedented. It mentions several more official documents of the ministry of economics that mention severe economic losses the Euro has cost Germany to date.

    I am unable to read the rest of the magazine now, which has several articles on the EU and the Euro. It looks like a general attack on the Euro. It will be very interresting to read next week’s Spiegel.

  21. If it is to be done than it can be done only overnight. This is a thing you cannot announce beforehand.

    You have not addressed my main question. How would it actually happen ? What is involved ? How was it done in Eastern Europe ?

  22. You have not addressed my main question. How would it actually happen ? What is involved ? How was it done in Eastern Europe ?

    I guess it would not happen as in eg. Czechoslovakia, as that was an orderly transition.

    I asked Edward and I have a few points to add.
    1. If you need to give confidence to the people, you cannot devalue as you exchange. You would change back at the introduction course.
    2. For the same reason, you’d declare the old money as new medium of payment.

    And an observation:
    The coins have national backsides and, more importantly, the banknotes can be told apart by their serial numbers.

    So, on friday evening, the borders are closed and people are not allowed to bring in cash (in Euros). Then you issue an emergency order for the banks to be opened on Saturday and Sunday for one purpose only and the ATMs switched off for the night. Then you attach a special sign (eg. a holographic sticker) to your national Euro bank notes. You allow your citizens to exchange foreign Euro notes and coins during that weekend only. By emergency law you declare all debt and accounts to be in your old currency and declare the Euro notes (stamped only) and coins as a transitional means of payment for a month or so and then you print money 24h a day.

    Maybe you would at the same time allow foreign holders of your national notes and coins to exchange them. You would settle the account deficits due to that by taking into account the notes you exchanged during switchover.
    You’d probably need some exceptional rules for vending machines which cannot be switched over immediately.
    Although the old notes and coins are largely destroyed, the templates are not and most institutions have experience in switching.

  23. “The whole thing reminds me of the recently discovered clause in the constitution treaty that if 20 out of 25 are in favour they can then decide what to do. Before the French voted no, I didn?t see this mentioned anywhere.”

    If it tranquilize you, I was aware of this clause before the votes began. Still I thought that the process lacked flexibility. As I see it the TECE may be thought as having two parts, one which is a fusion of previous treaties, and so if the TECE is “well-written” could enter in effect even if a member state doesn’t approve the TECE. The other is the part that establish reforced collaboration, which could be subject to a delayed approbation.

    DSW

  24. khr, sorry I haven’t been around this thread, I’ve been busy elsewhere :).

    Basically I tried to deal with some of the questions you raise here:

    http://fistfulofeuros.net/archives/001393.php

    I think it’s hard to be prescriptive. The only major issue is the outsanding notes and coin in circulation. All the electronic stuff can be done at a push of a button.

    Since the IT programming might be extensive for any ‘unwind’, it would be interesting to know if anyone has commissioned anything, just as a ‘research exercise’. Maybe one day Stern will tell us.

  25. “If it tranquilize you, I was aware of this clause”

    Well, on the one hand it does, and on the other it doesn’t. It depends whether you were being super vigilant, or I was being remiss :).

  26. They seem to quote from a confidential addendum to the report on the economy of 2004. Here it is:

    “Real interest rates far below average” are giving Greece, Ireland, Portugal and Spain “enourmous advantages in financing, having the effect of tax cuts” For Spain alone they estimate the effect at 3.1% GNP. The interest rate disadvantage for Germany in 2004 they computed at 1.4% GNP. That is 30*10**9 €. In civil service german the evaluation is: “The worsening of relative financial conditions can be used to a certain degree to explain Germany’s gap in growth compared to other countries of the eurozone.

  27. The interest rate disadvantage for Germany in 2004 they computed at 1.4% GNP. That is 30*10**9 ?. In civil service german the evaluation is: “The worsening of relative financial conditions can be used to a certain degree to explain Germany’s gap in growth compared to other countries of the eurozone.

    If the growth gap due to this were indeed that large, this begs the questions:

    Typically, a lot of other issues (neccessary liberalization , welfare state, high taxes, globalization etc.) are named as reasons for sluggish german growth. Maybe these are not the real reasons ? Maybe the proposed reforms are actually irrelevant and unneccessary ?

    Or maybe the diagnosis about the Euro is wrong ?
    Is the 1,4% disadvantage more than a wild guess ?

    If the Euro is in Germany badly valued, why does Germany have positive balances of trade and payments since the year 2000 ?
    http://www.bundesbank.de/stat/download/aussenwirtschaft/S201ATB30607.PDF
    Why does Germany have a positive trade balance with Spain, Portugal and Greece and all other EU countires except Ireland and the Netherlands?
    http://www.bundesbank.de/stat/download/aussenwirtschaft/S31DATB31819.PDF

    Why did the ECB recently complain that Germany’s labor market is too flexible and that Southern Europe is at a disadvantage because of this ?

  28. If the growth gap due to this were indeed that large, this begs the questions:

    I just translated it. The article did not state what this was compared to. I suspect that this is not a per year figure but a comparison to a hypothetical economy without the Euro, so the figure is spread out over several years.

    If the Euro is in Germany badly valued, why does Germany have positive balances of trade and payments since the year 2000 ?

    They refered not only to external value, but mainly to effects in the nominal and real interst rates. I guess they are arguing that external competitiveness has been achieved at a high internal price.

    Why did the ECB recently complain that Germany’s labor market is too flexible and that Southern Europe is at a disadvantage because of this ?

    They did not rule out that others were equally bad or worse off. The interest rates are surely too high for Italy, too.