Wolf Richter: Germany’s Last-Ditch Compromise, At A Price

By Wolf Richter, San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Cross posted from Testosterone Pit.

“I’m very happy with the result,” Chancellor Angela Merkel told the cameras on Friday morning as she climbed out the limo. She talked about the start of a stability and fiscal union and didn’t want to accept any “lazy compromises.” But the vague agreement that emerged may be illegal under European Union law and may devastate weaker economies. It elevated Germany to a leadership role that other countries perceive as domineering and arrogant. It can’t be put into a treaty. And by isolating the United Kingdom, it cut a deep gash into the EU—inflicting heavy collateral damage on the well-functioning 27-country free-trade area though it was aimed at the teetering 17-member Eurozone.

At its most fundamental level, the Eurozone has a nasty flaw: it allows member economies to become addicted to the crack cocaine of deficit spending without giving them a central bank that provides unlimited amounts of money to feed the habit.

The Eurozone is the only major economy that has forbidden its central bank by law to print money to buy government debt. Goal: a currency that would retain its value. The Fed’s policy of stirring up inflation and devaluing the dollar is called Inflationspolitik in German, synonymous with government deception and theft. And Germany tried to make sure that the euro wouldn’t by hijacked by it.

But deficits spiraled out of control and debt piled up and the crisis arrived. Each summit that was supposed to solve the crisis once and for all by injecting confidence into the markets was followed by loss of confidence, chaos, and … another summit. Yet the problem remains un-fixed: economies addicted to crack cocaine without a central bank to feed the habit.

Markets know that. All they want is for the ECB to turn on the printing press and buy unlimited amounts of Eurozone sovereign debt. It would cause a bout of inflation (30% – 50% over ten years, as it has in the US), devalue the currency, and demolish the purchasing power of the middle class as wages wouldn’t keep up with inflation. On Thursday, the ECB has come close with its announcement that it would lend unlimited amounts of money at near-zero interest rates for up to three years … to banks. But not countries. Inflationary risks may be similar, but it doesn’t violate the treaty. A solution that left some Greeks, whose salaries and pensions had been decimated, scratching their heads.

The agreement corresponds to Merkel’s demands:

Strict limits on budget deficits
Nearly automatic sanctions imposed on violators
European Commission involvement in approving national budgets
European Court of Justice as final budget arbiter
Eurobonds struck off the list
Bailout funds … well, that debacle hasn’t changed
Involvement of the IMF (the ECB would lend the IMF €200 billion, and the IMF would then lend the money to Italy and other countries…. to circumnavigate the Lisbon Treaty).

The back door is already wide open. While each country is required to propose an essentially balanced budget, any major catastrophe or recession would allow it to run a large deficit—a matter of interpretation. No date has been set when the rules would go into effect. Maybe 2020, if Germany’s own new rules are any guide. It’s not a current fix.

Then, a majority of finance ministers can vote to stop the “nearly automatic” sanctions. There are precedents. The existing deficit and debt limits have been violated with impunity by 11 of the 17 Eurozone countries, including Germany and France. In 2003, when Germany’s debt blew past the debt limit, EU finance ministers stopped the sanctions against Germany, which was the end of all sanctions for all times. Hence, the crisis. The new sanctions? Actually, there aren’t any in the agreement.

And the new treaty can’t even be a treaty. To establish a fiscal union by modifying the Lisbon Treaty, all 27 member states, including the UK, would have to agree to the changes. Complex democratic procedures would follow. It would take years and require parliamentary votes and messy referendums. Merkel wants it wrapped up by March 2012. So a side treaty for the 17 Eurozone countries and maybe 9 other EU countries.

But legal experts from the EU Commission, the ECB, and the European Council stated that the proposed side treaty for a fiscal union would be illegal under the Lisbon framework. Countries could only offer “political declarations of intent.” They would not be legally binding, and any new government could declare them null and void.

Nevertheless, the new treaty or declaration of intent or whatever outlines Merkel’s compromise solution to the underlying flaw of the Eurozone (allowing economies to become addicted to crack cocaine without giving them a central bank that can feed the habit). Implementation of deficit reductions will take years and will allow countries to wean themselves gradually from their habit. At the same time, Merkel has been tolerant of the ECB’s signals that a fiscal union would give it more leeway in buying sovereign bonds at a pace faster than it already is buying them. Thus the compromise: less dependence on crack cocaine but some money from the ECB to feed the habit.

While Friday’s agreement doesn’t fix anything, it does reveal a perhaps last-ditch effort by Germany to accommodate a measure of Inflationspolitik in order to safe the euro, as long as member states will make a serious effort to get their budgets in line. Of course, the devastating short-term impact that withdrawal can have is now playing out in Greece: it brings the economy to its knees and sends people rioting into the streets.

Already, the Swiss government is preparing for a collapse of the euro while the EU heads of state discuss changes that would impose Germany’s new religion on them…. Sarkozy: “The Risk That Europe Will Explode.”

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  1. Middle Seaman

    It appears that Germany, and the US, have “become addicted to the crack cocaine.” This addiction, however, is to unrealistic view of reality where the only value is staying away from deficits.

  2. santcugat

    The assumption that government deficits are the root cause of the problem is incorrect. Of all the EU members, the only country that was running a serious deficit prior to the economic crisis was Greece.

    The fact that countries like Spain are running large deficits now is because 1) tax collection is way down due to the fact that incomes are down 2) automatic stabilizers such as unemployment insurance are way up. Sure, you can blame it on the real-estate bubble, but that was caused by private credit, not government spending.

    The current “medicine” of increasing taxes, cutting benefits
    and deleveraging banks does nothing to fix the underlying problem of economic depression.

    1. LucyLulu

      In fact, Spain is a great example. Not only was Spain not running deficits prior to the global crisis, they were running a fiscal surplus.

    2. Eric

      not just Greece, Italy had a public debt of 104% when it entered the euro.
      And although Spain and Ireland had low public debt, the irresponsible policies of letting their housing bubbles out of control have proven to be equally devastating.
      The current euzozone policy change is not just about public debt brakes, it was already agreed earlier that eurozone governments need to act on imbalances in the future, so no more housing bubbles.
      Will all of this be enough to save the euro? Future will tell, but the Northern bloc including Germany and The Netherlands is trying. If their efforts fail, they will see no reason anymore to keep the euro alive.

    3. Lew Glendenning

      Wrong wrong wrong.

      The amount of debt, federal, state and local, in all of the countries of the world is so large that every one will default.

      The US and Britain will default on their national debut, but they will do so by inflation. China ditto.

      The EU hit the wall first because a) Greece is move insolvent than the others and b) the ECB can’t print money.

      Do the numbers, a simple spreadsheet will provide the answers. Even with a fast-growing economy, every country in the world has been borrowing too much. Now non-linear effects take hold : falling tax revenues because of the bad economy, rising social spending and very rapidly rising borrowing costs.

      There is no solution. The process can be delayed at great cost to taxpayers, but cannot be stopped.

      Banksters took advantage of their ownership of all of the political systems of the world, grabbed their share. But that is a layer on top of the fundamental problems : CBs that made credit far too easy in order to get incumbents re-elected and allow govs to borrow easily, the resulting bubbles and debt, debt, debt.

      The Fed is a regulatory agency. Of course it accomplishes the opposite of its intended purpose. Of course it serves the regulatees and the politicians.

      1. Yves Smith Post author

        So please explain the US in WWII, when debt to GDP rose to unheard of levels, and funded a military buildup which to a large degree was not productive? Or England during the entire 19th century.

        A sovereign currency issuer cannot default involuntarily (it CAN choose to default, just a a rich person can stiff its creditors). And when there is huge amounts of slack in the economy, and labor has no bargaining power, there is no risk of inflation. Look at Japan. It has engaged in 20 years of deficit spending and “printing”. It is still on the verge of deflation AND has a super strong currency! The results you get from deficit spending while you are working off a huge private sector debt binge are not at all the same as what you get if you deficit spend in an economy when private spending is robust (the US in the 1960s).

        1. mansoor h. khan

          Yves said,

          “there is no risk of inflation”

          Almost every time I explain the Keynesian way at looking the economy (rather than the simple “household” budget way, which is how most people view it) I get the following response:

          “What planet do you live on? Food and Fuel prices have been going way up for the past few years.”

          People don’t believe the official BLS numbers.

          How would you respond to such criticism?

          Mansoor H. Khan

          1. craazyman

            tell them everything you really need goes up in price. and all the junk goes down. so it averages out.

            or is it just that my math is wrong? :)

        2. Fiver

          But you can’t just dismiss the enormous economic advantage that accrues to Empires, or predominant Power – at least initially. They make the rules. Their money is the money that matters. Their desires (or “demand”) are those for which production is geared. And they have the means to force compliance in whatever dispute may arise. The UK held unchallenged sway for the century from Napoleon’s defeat to WWI, but was already approaching its economic displacement by the new North American Empire of the US (and its Canadian resource storehouse) at the turn of the 20th century. Had Britain not reduced itself to a mere money centre feeding off the US Empire’s global leftovers through 2 insane wars in Europe, there would undoubtedly have been a losing collision with the US at some point – the US was the jackpot winner, being in an historically unique position as the biggest, richest piece of temperate zone geography ever encountered, then stolen and colonized by a far more numerous and technically vastly superior wave of migration from the leading edge of an existing expansionary civilization. And no State, ever, has been in as good a position as the US was at the end of WWII.

          The UK (or should we just say The City?)could not play its current game absent a Fed and Wall Street inclined in the same direction. Nor can the US blithely print away its foreign-held debt and pretend such a policy would have a known, benign outcome, as even beyond creditors’ obvious dismay, it very seriously impacts the rest of the world when the Keeper of the globe’s reserve currency suddenly resets the game in its favor setting off currency wars, hot-money flows, external inflation and commodities flares. As for Japan, it has very nearly exhausted its ability to use internal savings to fund itself.

          And that leaves aside the plain fact that the mechanisms by which Central Bankers, and particularly the Fed, enact these policy goals ensures the money goes through the hands of the world’s worst financial criminals first – and of course the private players who owe the most, that being the top 2 quintiles, while mere working people without wage bargaining power slide ever downward.

          I’m a democratic socialist. I want an end to this ever-more-Darwinian game whereby the global financial elite/captured Central Banks use “markets” to usurp power. I am totally against forced EZ fiscal union. I am also against the idea that printing is a “solution” as opposed to a means of preserving/enhancing existing, horribly skewed power positions. When did the “fix” part of “print then fix” ever happen?

        3. LeonovaBalletRusse

          Yves, if you see the video on The Real News, featuring the lucid Professor Dr. Heiner Flassbeck, don’t you think it’s possible that France, Germany, and *the chosen* intend to live in a parallel universe, correcting their mistakes, far away from the fixes of *Anglo-Saxon Economics*?

          http://www.therealnews — “Class War: Low Wages And Beggar Thy Neighbor” featuring Professor Dr. Heiner Flassbeck: “Director, Globalization and Development strategies, UNCTAD” — re Germany’s error, and the battle between capital and labor; with warning to the U.S.

          Will you investigate, and let us know what you think? Thanks.

  3. Paul Walker

    Wolf calls this a Crack problem. Crack providing the quick rush that needs constant feeding to maintain the buzz. The character played by Chris Rock and his female companion in New Jack city comes to mind as analogous.
    Others have likened the current macroeconomic condition to heroin. Or love heroin to its advocates as Hugh Grant and Julia Roberts from Notting Hill would have one believe.
    Others have likened this state of affairs to speed-balling, the process of mixing cocaine and heroin together. John Belushi in life and death, being a notable example of this process.
    Still others liken the current state of affairs to a methamphetamine addiction. A buzz that can last days wherein the user gets starved for just about everything, most notably dopamine as the meth high is known to produce the mother of all dopamine releases. The character Ross and his associates from the movie Spun being emblematic of this context.
    Many of these analogies seem predicated upon some sort of juiced up repo to maturity kind of trade. That is until the user resorts to direct ingestion via hypodermic needle. Or in the case of modern finance a re-hypo run amok if some are to be believed wherein every user seems to be sharing the same needle and the same blood borne disease/s. If this condition is indeed pervasive then one must wonder how much of the collateral held by central banks, the IMF along with the money center institutions have been infected with this potentially new wrinkle in treating the addiction afflicted.
    As Wolf notes, addiction in whatever form is horrendous and withdrawal can be painful. The advocates of love heroin would add that the process can also be life threatening as this course leads to a dope (debt) spiral to a painful death. The conundrum is to be found in that everyone is in a race to the devaluation bottom of love heroin use. Many believe the inability to devalue against other markets to regain competitive position and relief from the debt spiral also leads the afflicted to the same dope (debt) death spiral outcome simply via another means.
    In current affairs what seems a likely outcome is a debt spiral either through default or devaluation. Pick whichever term best suits depending on the norms of polite conversation of the venue. Regardless of the diagnosis and prescription the sledding looks rough from here.

  4. Foppe

    But the vague agreement that emerged may be illegal under European Union law and may devastate weaker economies. It elevated Germany to a leadership role that other countries perceive as domineering and arrogant. It can’t be put into a treaty.

    Could you elaborate ont his a bit more?

    1. Wolf

      Thanks. I agree that deficit spending in a recession is an important stimulant. I pointed at Greece as an example of what happens when a country is trying to cut its budget during a recession — it brings the economy to its knees.

      All the major European economies had deficits even during good times, and so their economies have become “addicted” to it — meaning they have adjusted to it and now need that stimulus to grow, like many other countries. The very unique problem the Eurozone has is its lack of a central bank that can step in and buy unlimited amounts of government debt to guarantee that the deficits can be funded.

      Example: Japan’s debt is 230% of GDP, much worse than Greece’s. The reason it doesn’t have a debt crisis is that it isn’t dependent on financial markets for funding. 95% of all Japanese debt is held internally, that is by government institutions (pensions funds, Post Bank, etc.), the BoJ, publically traded companies that the government leans on if it needs to, and Japanese individuals (directly and indirectly).

      The Eurozone lacks this kind of protection from the financial markets. When the markets step away, there is no one else to step in. Hence the crisis. It’s a fundamental flaw. If all countries had reasonably balanced budgets, it would work. But given that they don’t, it won’t work. That’s the core theme of this post. And unless they fix that flaw — allow the ECB to buy gov debt OR balance their budgets OR a combination — there won’t be a solution. And it seems Germany is shooting for the combo solution….

      1. Fiver

        Japan’s 2 huge advantages are both facing serious constraints:

        1) Internal savings is rapidly nearing the limit that it can fund in this globalized economy, particularly in light of

        2) Japan is having increasing difficulty maintaining its trade surplus position due to its near total deficiency of resources, a problem it shares with Germany/Europe.

        I’m a leftist. Also a realist, as in vitally interested in where this is all going, not because I am in the “market” (I’m not), but because we are on the cusp of staggering change. I pay attention to all the arguments. Here’s one from a shark:


    2. Wolf

      Foppe – thanks for your question.

      Here are some examples. The Greeks had an allergic reaction to Germany’s insistence on austerity to the point where cartoons and effigies made parallels to Nazism. Most recently, of course, was David Cameron’s polite thanks but no thanks. The case I have illustrated on NC is France. While Sarkozy supports the German proposals (mostly), he is facing a very tough reelection. And his opponents to the left and to the right disagree with his approach and have said some tough things about Germany. Here is the link:

  5. john haskell

    it’s fairly shocking to see this blog being used to put forward the idea that deficit spending in a recession should be compared to a cocaine addiction. Maybe we can send this guy’s resume to Fox News, he will do better there.

    1. jimmy james

      The high CHF was hollowing out Swiss industry and tourism. It isn’t quite a peg… More like an ultimatum to the market that it can push CHF up, but only so high before the central bank will print to devalue it.

  6. Heron

    FTA: …It would cause a bout of inflation (30% – 50% over ten years, as it has in the US)…

    This has not happened. Mr. Wolf’s analysis of German egotism in regards to the debt crisis may be accurate, and his short dive into comparative linguistics is certainly illuminating as to why the Germans seem unable to grasp the destruction they are wreaking on, essentially, the entire Eurozone economy (I, for one, was unaware that Germany’s moralizing approach to this crisis was literally built in to their language), but his analysis of the causes (debt) and of the results of deficit spending (rampant inflation), is simply not based in reality. Both Spain and Ireland were fiscal paragons leading up to the crisis, Italy’s debt was entirely sustainable, and Portugal wasn’t exactly profligate, either. Even in Greece, the crisis had more to do with what amounted to margin calls on their debt and Goldman-Sachs’ perennial shenanigans (why govs continue to trust them to restructure sovereign debt after what they did to Russia in the 90s I’ll never comprehend) than it did with wanton indebtedness.

    As to his claims regarding inflation, I simply don’t see how he can get away with claiming that has happened in the US when it clearly hasn’t. Our rates are effectively below 0%, for pity’s sake; The US would actually be making money from large-scale borrowing by the Federal government, just from the interest. And if my thanksgiving food-buying in Texas is any indication of prices across the US, we are, if anything, seeing prices drop. I was buying shallots for half of what onions cost last year, at a time when -in at least three major agricultural states in the south- crops have rotted unpicked in the fields due to idiotic pandering over immigration. For prices to be lower when yields have dropped does not suggest inflation to me.

    1. banger

      Good points. As for why GS has the trust of major governments that should be obvious if “we” didn’t swallow the mainstream narrative’s take on political-economic reality. GS has power and it’s power extends around the world in all corridors of power from intel services to organized crime. We actually live in a world dominated by Napoleoni’s term of “rogue eonomics” wherein the power of nation-states is blunted by the power of non-state actors like rogue military and intel organizations, corporations and organized crime. The real drama is not “Germany” against other countries in Europe but the power of the state against the non-state actors.

      Sadly this reality is obscured from most commentators because of the intellectual bankruptcy of this era. Political power comes from the ability to project force (why is that so hard to understand?) and in today’s world that means two things: 1) money, money money; and 2) force of arms. Just because a country exists doesn’t mean it has political power over its institutions or its people.

    2. Chaos

      1. Cost of college education.
      2. Cost of healthcare.
      3. Cost of utilities.

      Dollar denominated domestic industries with pricing power to raise prices. Industries competing in a global marketplace could not.

    3. Eric

      I would like to see a graph that compares the hard currencies like Swiss franc and former D-mark against the dollar and pound over the last decades. I suspect the dollar and pound have lost a lot of their value.

    4. Lew Glendenning

      shadowstats.com measures the CPI the way the gov did it in 1980, and explains that even then, the CPI was designed to minimize inflation.

      shadowstats says the CPI is 12% when measured as it was in 1980.

      Seems right to me : cheese rose in price by $1/lb in each of the last 2 years. Gasoline at $3.25 is better than $4, but it costs $60 to fill my car, when it cost $40 a couple of years ago.

      Ask any person on a fixed income whether there is inflation. They measure it in pennies and are very aware that they are being screwed.

      So, there is inflation, and there is no economic growth because they are not correctly adjusting for inflation.

      You are flat wrong in your assertions.

      1. Yves Smith Post author

        Shadowstats has fake data on this issue. Look at its graphs. They run in a strict parallel to the actual inflation rate. He just took an arbitrary % and added it to the actual inflation. That’s purely made up.

        The 1993 Boskin changes did lower the reported inflation rate, which (hold your breath) was actually believed by a lot of statisticians to be too high. The level of reduction is on the order of 0.5% a year.

        Shadowstats is good on its accounts of how statistical measures have changed over time. It is not good at all on its efforts to create its own measures to replace the official data.

        Moreover, pretty much every economist believes that a modest level of inflation is far better than targeting 0 inflation. It is too easy to fall into destructive deflation from 0% inflation. If we could create a modest level of inflation (2-4%) and keep it pretty stable, investments would adjust to reflect the required inflation premium and investors would be OK. Even Milton Friedman recommended a steady, auto pilot level of increase in money supply to achieve this end (although it has been demonstrated empirically the relationship between money supply growth and economic growth is so loose as to make money supply growth targeting useless. Experiments in the UK and US in the early 1980s demonstrated this pretty conclusively).

        Finally, a lot of our inflation is commodities inflation. That in turn has to do with demographic/lifestyle changes in emerging economies, and for food, our stupid ethanol policies (there is also a speculative component this year and in 2008 due to concerns re Fed loose money policies, which is now abating big time as Europe is clearly going to pursue contractionary policies). China is going to have serious problems feeding itself starting in 2020, for instance. You have a secular component in this which is pretty significant.

        1. Fiver

          But suppose, in the last 10 years, very low rates, but by a defined-away change of circumstance, there had been neither asset bubbles, nor unbelievably cheap foreign labour making so much of the West’s “stuff”?

      2. PL_2

        I thought partly what kept CPI down is the latter-day exclusion of ‘volatile food and energy prices.’

        Funny, both of them mainly seem to be trending _way_ higher to me.

        Bet if they put them in, they’d have to increase social security payments way more.

        1. PL_2

          Oh yeah, and along with housing, food and energy are maybe the most unavoidable expenses.

          Funny how those cost increases manage to get excluded from the CPI.

  7. PeakVT

    The Fed’s policy of stirring up inflation and devaluing the dollar

    When is the last time the Fed did that? 1973?

    1. Ignim Brites

      How bout October, 1982 when Tall Paul cracked and ignited the huge asset inflation which today promises to bring down the global civilization. The revaluation of all values is only getting started.

      1. Yves Smith Post author

        Are you CRAZY? We saw a massive increase in the value of the dollar as a result. This was why we had the Plaza Accord in 1985, to drive down the value of the dollar v. the yen and DM.

        Go look at the stats. Inflation fell. Disinflation is VERY favorable to asset prices. Falling real economy inflation will lead to asset price increases.

  8. Norman

    Interesting analogy re: shallots vs onions as well as rotting crops in 3 major agricultural states in the south re: immigrants. There is the old habit in the produce business, that when one is stuck with product, cut prices, but if that fails, let it rot in the field, then write it off on the tax form. As for food inflation, Texas isn’t the rest of the country. Ask any senior just how far his/her Social Security check goes towards the buying of food, or better yet, how much have you had to cut back on?

    1. reslez

      Ask any senior just how far his/her Social Security check goes towards the buying of food, or better yet, how much have you had to cut back on?

      As an anecdotal indication it’s interesting how menu planning articles in the paper used to talk about switching from beef to chicken to save money, inexpensive cuts etc. Now the articles talk about super cheap protein sources like rice/beans and eggs (example: here). Due to recent shortages even peanut butter is now out of many people’s budgets. I’m honestly not sure where things go from here. Maybe they’ll start telling us how much protein you can get from grasshoppers and backyard creepy crawlies.

  9. Gerald Muller

    Apart from not admitting that the euro was a flawed construction, I fail to understand why the Germans want to keep the euro at all costs, including ruining the Eurozone and , therefore in the long run, their own economy.
    Doesn’t that look very much like suicide, due to failure to understand the fundamentals of this crisis?
    Organizing the destruction of the euro as it is and recreating either the old currencies or creating 2 or 3 different euros, each for similar economies look to my – maybe dim – view a much sounder approach.

    1. Shyster Sister

      The common currency was introduced both for the sake of economic gains and to push forward European integration. Fr.ex. when Greece became a member it should have been obvious that integration drove that decision, not cold economic sense. Ending the Europroject is perceived as a huge blow to the engines of integration, so they don’t want to go there. The irony of course is that the Euro is not bringing prosperity but instead austerity to large parts of Europe, which discredits European institutions (particularly the ECB) and fuels the rise of populist eurosceptics, which in turns bodes ill for future integration.

    2. LeonovaBalletRusse

      Gerald Muller, see the address by Professor Dr. Heiner Flassbeck: “Director, Globalization and Development Strategies, UNCTAD” — under the title: “Class War: Low Wages And Beggar Thy Neighbor” at http://www.therealnews.com

      You will find this enlightening, given your questions.

  10. gast01

    Apart from not admitting that the Euro was a flawed construction, I fail to understand why the Germans want to keep the Euro at all costs…

    This is the view of the German government – ‘the Germans’ (as far as I can see here in Germany) don’t like the Euro at all. This is because the wealth of the middle- and working-class has declined in the last decade and a lot of my fellow citizens blame it to Euro/EMU.
    Personally I think that it is not so much the Euro or the EU, but the neoliberal agenda of German politics (in all parties) witch is to blame. Anyway – people are angry because their incomes are in stagnation while costs like health insurance, gasoline, energy in general, … in short – payments one can’t escape – are constantly raising. So it’s a quite popular narrative that we (the hard working Germans aka Exportweltmeister) are getting sucked out by the lazy party people in the south.
    So many people want to exit the EMU and reintroduce the German mark (DM) or at least create a ‘north euro’ with the Netherlands, Austria, Belgium (?) …
    …it’s a big mess – on the one hand you have the undemocratic, corrupted EU and on the other a nationalistic German elite exploiting the rage of (IMHO) misinformed and mislead Germans – great choice
    but nonetheless happy Christmas (or winter solstice)

    1. Yves Smith Post author

      He’s talking over 10 years to make it sound scary. And it has not been that high. Per the BIS unadjusted data, US inflation over the last decade has been 27%. That’s with our big housing bubble taking place. With deflationary pressures here, austerity in Europe and China trying to cool off inflation, there is plenty of reason to think inflation will not be higher (now if someone gets stupid and starts a war with Iran, all bets are off, but that would have nada to do with monetary/fiscal policy).

      1. Fiver


        A question:

        I gather from much of what you say here that over the past 10 years, say, you could easily not believe much or all of what came out of:

        1) The Pentagon.

        2) The CIA, FBI and their exponentially growing clones.

        3) Treasury.

        4) The Fed.

        5) The White House.

        6) Department of Energy.

        7) FDA

        8) This Supreme Court.

        Or anything else with a big impact on money and/or powerful interests. Why on earth would you believe Commerce, alone in a sewer of corruption, is a reliable source of economic data, in particular on the big “headline” numbers of jobs, inflation, GDP and a few others?

  11. Historicaecon

    It’s hard to see how Merkel’s choice won’t ultimately split Europe. The U.S. was faced with a similar situation in the 1780s – too much member state debt without the ability to pay it or manage the situation centrally. The solution we hit on, thanks to Hamilton, was the national assumption of state debt. It wasn’t “fair” but it did more than anything except, perhaps the Revolution and Constitution to keep the United States together. Faced with the same decision, Europe has decided to hunker down. It seems there are no statesmen (or women) of Europe.

    1. Ignim Brites

      We will be there again shortly as the Fed will be compelled to by state and municipal debt. Maybe it will be all bundled up into triple A securities so that the Fed can get a two-fer, subsidize the banks and the states and cities.

  12. Susan the other

    The problem isn’t so much austerity as it is empire. The EU is not a union of states, it’s still a union of sovereign countries. It’s a modern-day empire. Everyone knows this is the immediate problem. What sort of money-printing central bank can be banker to an empire? It will have a slightly different mandate for every sovereign charter. Weren’t empires just a protection racket in the old days? The emperor got to come in and collect all the taxes and in return he promised not to kill you. It would have been a farce to seek a fiscal accord. So why does Europe put itself in this situation? If the EU members do not trust market based banking (which takes advantage of separate fiscal entities) they should invent some empire software and go with an computer.

    1. F. Beard

      If the EU members do not trust market based banking (which takes advantage of separate fiscal entities) they should invent some empire software and go with an computer. Susan the other

      Market based banking? What’s that? Banking as we know it is heavily dependent on government privileges such as borrowing by government (absurd if the country is monetarily sovereign), a lender of last resort and government deposit insurance.

      It is doubtful that banks could even survive in a true free market of private money creation.

  13. mac

    We in the USA suffer from comparing everything to the Vietnam issue, Germany compares everything to the Pre Hitler inflation. Maybe memory and History are not so great after all

  14. Yancey Ward

    Many of you are missing what has happened since the Euro came into being. Prior to the Euro, cross border sovereign lending was much less prevalent in the case of southern European (and east European) debt. With the Euro and the corresponding banking regulations in regards to sovereign debt, German and French banks (along with others) are loaded to the gills with the sovereign debts of the periphery.

    So, even though Italy and Spain, for example, seemed to be fiscally prudent prior to the crisis (even Greece appeared this way for the most part), most of this was due to the implicit subsidy of being able to borrow from other countries in the Euro on cheaper terms than they used to be able to do when they were on the lira, peseta, or the drachma. And you cannot ignore the increases in private debt in those countries that are also linked to their adoption of the Euro. The subsidies are not free, they only appeared to be for about 10 years. The financial crisis did not cause this so much as reveal the rotteness of credit extended to the these countries by others.

  15. Lafayette


    It elevated Germany to a leadership role that other countries perceive as domineering and arrogant.

    Not quite right, that.

    It elevates Germany, France and Italy, each possessing more than 15% of the votes in the European Stability Mechanism (ESM) to a communal leadership role. Whereas before all voting required unanimity, which glued-up the workings, the new relationship will function according to a Qualified Majority.

    The ESM-fund will be advanced to mid-2012 in terms of accessibility of funds – a half year away. Then the fund will assume the responsibilities of the European Financial Stability Fund (ESFS), which is closed.

    A Qualified Majority of 85% will be necessary to make common decisions; which means, for instance, to invoke injunctions against a country that consistently goes over its debt limit. Those injunctions will mean no further EU subsidies, which are habitual annually, or even no possibility of the ECB adopting part of its debt.

    With the Golden Rule in place, in time overall debt will diminish gradually. It is assumed that financial stability will slowly reinstall itself. How much time it will take is, however, another question.

    Quite some time, some think. As much as 5 to 10 years.


    Where Europe finds the growth to increase employment and take people off Unemployment Insurance, which is a major element of national budgets, is an unanswered question.

    1. mark

      German dominance here is specified by its economic grip of policy not vote distribution or EU treaty rules which it seems that some of the key EU powers are happy to ignore at a moments notice when it does not suit them

      The proposals essentially put the rest of Europe on a German ‘gold standard’ for debt. This where the problem will ultimately come since it virtually condemns the southern European nations to low growth, high unemployment and frequent bouts of austerity. At the same time it provides no means for punishing surplus trade countries as well as those running deficits (something Keynes regarded as essential towards the end of his life for a functioning world trade system) or of transferring surpluses fron the rich core to the poorer perphery. Fiscal union needs carrots as well as sticks if it is going to work in Europe. Otherwise it is just another name for oppression and dominion.

  16. F. Beard

    At its most fundamental level, the Eurozone has a nasty flaw: it allows member economies to become addicted to the crack cocaine of deficit spending without giving them a central bank that provides unlimited amounts of money to feed the habit. Wolf Richter,

    Some deficit spending is undoubtedly good so calling it “crack cocaine” is disingenuous. The problem is determining the optimum amount of deficit spending. That could be done with separate national currencies that were only legal tender for debt (taxes and fees) to the respective government and any number of private currencies that allowed the private sector to escape the “stealth inflation tax”.

    1. Yancey Ward

      Yeah, but allowing an escape of the inflation tax defeats the purpose of inflating in the first place(from the point of view of those dependent on government funds). This is why capital gains aren’t adjusted for inflation either.

      1. F. Beard

        A small amount of deficit spending can be done without price inflation. The problem is that measuring price inflation is subjective and the temptation to cook the numbers is great and not altogether unjustified.

      2. F. Beard

        This is why capital gains aren’t adjusted for inflation either. Yancey Ward

        Yes. If we are ever to have genuine private currencies, the capital gains tax must be abolished. In exchange, the entire population, including savers, should bailed out of all debt equally

  17. RPL

    Yves, this is flat out such a bad article with factual inaccuracies, such as when deficits started accumulating in the peripheral nations; a complete failure to understand the actual problem with turning 17 sovereign nations into currency users instead of issuers; and to fail to understand the internal trade imbalance issue within Europe and the pro-cyclical prescription currently being implemented as opposed to proper counter-cyclical measures of fiscal transfers such as here in the USA, it is quite distressing that you chose to post this. Whether you are a neo-Keynesian ala Krugman or an MMT’er this is flat out a bad analysis that contributes nothing to our understanding other than that it appears that part of the problem in getting to a Eurozone solution is how many people really don’t get it.

    1. Jim

      So what’s your resolution? The German constitution stipulates that you can’t have ECB monetization or fiscal transfers. And because so much of the problem hinges on trade imbalances, you do need fiscal transfers (the kind you have in the USA).

      My solution? Hold an EU-wide (sans the UK, which has done the right thing) referendum, with a majority in each country needed for approval.

      One question.

      Form a United States of Europe, based in Berlin, with a central bank and generous fiscal transfers (to address the differences in productivity). Two houses. The House of Representatives would be based on 1 person 1 vote, while the Senate would be weighted for the northern countries, with, for example, a German voter having 10x the weight of a Greek voter (not unlike Google common vs preferred shareholder split, which shareholders have no problem with). A President of the US of Europe would be elected, with the northern European countries having more weight (per voter) than the southern European ones.

      I would put that to a vote.

      1. mark

        Absolutely agree there has to be major constititutional change if the EU is ever to work At its heart this problem is as much political as economic. The EU suffers a huge democratic deficit and its constitution is fundamentally flawed. At the moment the European Parliament has no more power than the Reichstag in pre 1914 Germany when the Kaiser persionally appointed all the government ministers. There needs to ne a move away from the obscurantist process where by a technocratic elite get to make all the decisions while the plebs are left gazing on in wonder from afar. Instead there needs to be a single written constitution giving much more power to a directly elected legislature and weakening the executive. There also needs to be a meaningful central budget which controls not just taxation but also how the money is distributed and spent. At the moment the EU budget is a by word for fraud and lax accounting.

        Ultimately the problems in Europe go back to two issues. First, the fudging of the economic convergence criteria when the Euro was created in 1999 which allowed countries like Greece to become memebers. Second, the political gerrymandering used to get the Treaty establishing a Constitution for Europe (TCE) into existence in 2005 where opposition expressed in referenda was ignored or was not even tested by putting the issue to a vote.

    2. Foppe

      I’m not sure that it follows from the fact that the author doesn’t mention the trade imbalances/mercantilism that the author does not appreciate these imbalances for being what they are.

  18. Hugh

    This is another non-solution to the European crisis. Economic projections and plans even one or two years out can be seriously off. Those further out, say going out to 2020, are garbage. So a program that is supposed to kick in in 2020, and remember these are economic parlous times, is tantamount to not having a program at all.

    Euro countries are supposed to engage in austerity, tighten their belts? How will that do anything other than plonge a lot of the periphery into depression making it even harder for them to keep up with their debts, let alone reduce them?

    Richter’s analysis is deeply flawed. As others have noted, he does not distinguish between public and private debt. And while he seeks to recast the discussion in terms of his crack cocaine analogy, this actually takes us backward in our understanding of the crisis. He talks about the periphery’s addiction to debt, but what about Germany’s addiction to mercantilism which produces trade surpluses at the expense of the periphery, or how its and other Northern banks have used those surpluses to recycle money to the South pumping up both bubbles and debt there?

    I have said this many, many times now, but Europe has 6 problems all of which need to be addressed at the same time:

    1) an ineffective ECB
    2) lack of a reasonable fiscal/debt union
    3) mercantilist trade patterns
    4) an insolvent banking system
    5) a corrupt political class
    6) the European 1%

    We aren’t seeing any of this. What we are seeing is extending a little bit of credit to the South to hopefully keep them from crashing while the dismantling of their safety nets and stripping of their assets continues.

  19. RueTheDay

    The EU Summit accomplished next to nothing. In my view, the neutral to mildly positive market reaction is akin to the old cartoons where Wile E. Coyote runs off a cliff and the hovers for a moment before falling. The only question is when the “Beep Beep!” will take place. My guess is early January.

  20. allcoppedout

    My view is we need a more radical, science-oriented dialogue on these matters. We talk of needing to get people off benefits and into work – hard to disagree – and yet we have millions of people “earning” livings and grotesque excess in financial services we probably don’t need.

    We also tend to believe accumulated wealth in private hands gained through “work” is justifiable – yet sooner of later in this the rest of us have to do the work in serf-relation to the accumulated personal money.

    These are just two examples (not fleshed out) concerning just how little scientific critical reflection is part of economic thinking.

  21. Lafayette


    I have said this many, many times now, but Europe has 6 problems all of which need to be addressed at the same time:

    1) an ineffective ECB
    2) lack of a reasonable fiscal/debt union
    3) mercantilist trade patterns
    4) an insolvent banking system
    5) a corrupt political class
    6) the European 1%

    And once too often. The above is piffle:
    * An ineffective ECB – As a lender of last resort, perhaps, but the bank has steered Europe well throughout past years. It has no mandate as “lender of last resort”. And the banksters lending to national governments knew that. Which is why, when Merkel asked for a 50% haircut on Greek debt, she got it. (Btw, the Fed is all that “effective”? Where was it during the Toxic Waste fraud?)
    * lack of a reasonable fiscal/debt union – If lack of oversight is the point, then, yes. But was the Fed giving “reasonable” oversight to the lending market that brought Uncle Sam the SubPrime Mess? No.
    * mercantilist trade patterns – Unsubstantiated and insubstantial polemic. Much of EU national export trade is inter-EU – just like in the US. [This is gadfly posting. “I bite therefore I exist”.)
    * an insolvent banking system – How’s that.? I got cash from the automatic teller using my debit card just this morning.
    * a corrupt political class – Huh? Since when? BigMoney did not elect either Merkel or Sarkozy. We have no plutocracy here in Europe, we do have One-percenters, however. Still, the people get out to vote – voter turnout is not 50% as in the US and well above 80% in most countries. (See here.)
    * the European 1% – Yep, we hav’em as well. But with by no means the share of wealth in the US. Just have a look at the Gini Coefficient that measures Income Disparity and one will see that unfairness is far less important in the EU than the US (EU 30.4 vs: US 45; that 15 point difference means A LOT!)

    The above contention is moronic drivel. I just luv-it when numskulls, who know eff-all about Europe, make such dumb commentary about the place.

    Go away … do your doodoo in someone else’s backyard.

  22. Fiver

    What makes anyone think this is what more than a tiny slice of Germany, or Germans, or of even the German elite wanted? They have as big a gun to their heads as the rest of Europe. That gun cannot be taken from the current controllers of the global financial system without decisive leadership from the US. The chance of that disappeared, perhaps completely, with the appointment of Geithner and retention of Bernanke, with all the attendant rule-by-banksterisms we’ve seen.

    Let’s remember that it was the combination of Clinton-era financial “innovators” the wizards behind a plethora of “products” and “theory” all designed to “eliminate” risk and a loose-everything-including-regulation intellectual fraud and evil madman at the head of the Federal Reserve that, incredibly, managed to convince 99% of economists, financial analysts, elites broadly, and of course mere politicians, that risk had disappeared. How anyone bought it boggles. But they all did. Those who thought differently were ridiculed, marginalized, and if in any responsible position of any kind, neutralized, B. Born being a more famous example.

    The right response was what the politicians in many European countries, including Merkel, were saying right at the start in late 2008, very early 2009 i.e., demanding major hits to banksters and their bondholders, no easy-way-out, no currency race to the bottom, and much, much tougher regulation. That sort of “silliness” was ruled out of bounds by the US from the get-go. Everything since has flowed from that. Bernanke floated the sinking banksters on a sea of money, and they took dead aim at the nearest big target of opportunity – that would be Europe.

  23. good2go

    “At its most fundamental level, the Eurozone has a nasty flaw: it allows member economies to become addicted to the crack cocaine of deficit spending without giving them a central bank that provides unlimited amounts of money to feed the habit.”

    Jeez, Wolfie, you didn’t take long to sink your article right into the toilet. As many others here have pointed out, deficit spending was not the problem. Well, at least I didn’t have to wade through the rest.

    Tell ya’ what…how about running out and starting up some self-impressed specialist with extensive international work experience (like fruit pickers) and leaving economics to economists.

    Yves, don’t do this again.

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