Domestic Victories, European Challenges
With 97.94% of votes cast in her favor, the German Chancellor and head of the Christian Democratic Party (CDU) Angela Merkel could not be happier. At their party convention in Hannover this week, the delegates of the CDU have confirmed that Merkel is the party. She has gotten exactly what she needed in order to propel her towards the general election in September 2013.
Of course, the result is not entirely surprising. However, it confirms that despite widespread reports in the German media suggesting growing frustrations within her own party, rank and file, Christian Democrats know that in order to win next fall they need “Mutti” (mom, in English) to navigate them safely to their electoral goal.
The party convention comes just days after the latest bailout for Greece, which for the first time will cost German taxpayers real money. On Sunday, in an interview with the biggest German newspaper Bild, Merkel had warned voters that Germany might have to write down a substantial part of its Greek debt holdings, probably as early as 2014. Up until then, she had always maintained that the German taxpayers would not lose a penny. Paradoxically, Peer Steinbrueck, Merkel’s Social Democratic rival in the 2013 race, forced the Chancellor’s hand regarding Greece. Since becoming the SPD’s candidate in late September he has bluntly accused Merkel of not doing enough to save the euro and of hiding the true costs from German voters. By repeatedly stressing the need for rescuing Greece − even if costly − Merkel’s opponent has given the Chancellor the political cover necessary to undertake a remarkable U-turn.
Not long ago − in fact, only last summer − members of her own governing coalition openly talked about a possible ‘Grexit’ (a Greek exit from the euro zone). Such talk triggered all sorts of wild speculation that Germany might even be close to giving up on the euro itself. At first, Merkel tolerated those voices, in spite of the fact that she never really wanted Greece out but instead thought that brutal pressure was necessary to get the dysfunctional political elite in Athens to act. It was only when it became clear that financial markets were mounting a massive attack against the periphery of Europe in order to test Germany’s will to keep the common currency afloat that she proceeded to quiet down her own people. She then signed a deal to keep Greece funded and finally began to talk about a possible write down of the country’s debt. The message to investors and speculators was very clear: don’t bet on a breakup of the euro. If Germany is willing to keep even its weakest link in the club, nobody should be tempted to bet against any other member country.
But is this enough to restore some trust between European policymakers and financial markets? Does Merkel really think that by trying to put the Greek genie back into the bottle, a new existential crisis can be avoided? Probably not. In her speech before more that 1000 party delegates, Merkel warned against complacency. She made it clear that if some now think that the crisis is over they would be mistaken.
In fact, the next euro cliff is fast approaching. This cliff is commonly known as the issue of a banking union. The latest attempt by European finance ministers this week to bridge a gap between the very different positions, particularly of Germany and France, has failed. Germany still has deep misgivings about the potential role of the European Central Bank in any future banking union. It is still trying to shield its small banks and make sure that banking supervision and monetary policy remain strictly separated. According to Wolfgang Schaeuble, Germany’s finance minister, “the right of the last decision cannot be left to the ECB’s governing council.” At the latest gathering of European finance ministers, he added that a “Chinese wall between banking supervision and monetary policy is an absolute necessity.”
It is helpful to remember that in the governing council, the German Bundesbank can be outvoted by the other national central banks. Germany has no veto power within the ECB, and the Bundesbank’s role has been weakened by the crisis. Germany would therefore be more inclined to accept the ECB’s supervision if the new body within the ECB had a different voting mechanism, i.e. one that would effectively give the German representative a veto power or at the very least enable it to easily gather a blocking minority. In order to achieve this goal, the new body should be governed by a completely different set of rules than those of the governing council. This would enable Germany to protect its smaller and politically controlled savings banks and Landesbanken from supranational supervision.
Schaeuble knows that domestically he can count on the opposition’s support for such an outcome. The SPD has similar misgivings about an intrusive role by the ECB in the savings banks’ business. Both the government and the opposition share the almost romantic view that small savings banks represent the financing backbone for the much-praised Mittelstand (the small- and medium-sized German businesses). They are not only small in size, they are also risk-averse. For a German political class deeply suspicious of big international financial institutions, savings banks represent a model to follow rather than an old and somewhat outdated business model that could suffer under a supranational supervisor. France, whose banks are larger in size and more international in character than Germany’s (Deutsche Bank being the exception), is more inclined to cede control over its own financial institutions. The French are conscious of the fact that it would probably muster a big enough majority in the new supervisory body in order to maintain a relatively advantageous balance between national and supranational supervision. Better still, French banks could profit as opposed to suffer from the new European regulatory regime. No wonder France and Germany have reached an impasse in the negotiations.
The rift about the banking union is once again exposing the traditional diffidence between northern and southern European countries that made the negotiations leading to the Maastricht treaty so difficult twenty years ago. Of course, the history of the common currency proves that forging a compromise is not impossible. However, euro zone countries must strike the correct balance today in order to correct yesterday’s mistakes. Getting this right is not an easy task under any circumstance, especially given the additional difficulty of trying to appease EU countries that are not part of the euro area. Whether a compromise can emerge in time for the deal to be signed by the end of the year is still unclear. What is clear, however, is that any agreement that creates a new institution within the ECB − but renders it toothless by caveats and easy vetoes − will trigger new doubts about European policymakers’ capacity to learn from their own mistakes. It will also risk damaging the ECB’ s credibility.
As we have pointed out in a recent paper, the banking union represents the first real political test that will tell us whether achieving further European integration is a real, immediate goal for the German government. It is helpful to remember that a banking union is needed for a common currency area to function properly. Only a banking union can break the vicious link between the euro zone sovereigns and their banks. An agreement would be a decisive step towards a truly integrated single market for the financial service industries.
Merkel should resist the temptation to believe that her recent elimination of the so-called tail risk of a “Grexit” can be traded against a delay on an agreement to the banking union. Politically, she and her finance minister have enough maneuvering room to show courage. Let’s hope that the current impasse is only a reflection of the tough horse-trading that usually precedes a deal. The way Merkel recently handled the Greek challenge demonstrates that even the overly cautious Chancellor can act with courage and against the will of many of her own party members. Next week, when she meets her European colleagues in Brussels, she should remember that her own CDU has essentially handed her a blank check. Despite the sorry state of her coalition partner, the FDP, Merkel possesses the political capital needed to act. Now she has the opportunity to demonstrate that she also has the political will.