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Experts: Germany grew too dependent on Eurozone trying to escape its issues

18:05 | 05.06.2015 | Analytic


5 June 2015. PenzaNews. The Federal Republic of Germany, still the economy leader of the European Union, is devoid of any actual freedom of choice because of its overdependency on the existence of the united European currency, write Federico Steinberg, senior analyst for International Economics at the Elcano Royal Institute, and Mattias Vermeiren, post-doctoral researcher at the Ghent Institute for International Studies, in their joint article titled “The limits to German power in the Eurozone.”

Experts: Germany grew too dependent on Eurozone trying to escape its issues

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The authors recall that the Germany’s successes were largely achieved due to the economy strategy of the local producers, banks and the authorities themselves, who quickly took to exploit the more beneficial position of their country compared to the rest of the Eurozone.

According to them, the elimination of currency barriers and weakening of neighboring economies allowed the German banks to speculate on the assets of debtors which but improved the Germany’s position as a creditor state.

“The euro eliminated the possibility of the debtor countries using periodic nominal devaluation as a strategy to regain competitiveness, allowing German export-oriented firms to turn an overvalued real exchange rate into a substantially undervalued one. As a result, the ability and determination of German export-oriented employer organizations and trade unions to exert wage restraint became even more pronounced after the euro’s introduction,” the analysts explain.

According to them, an unintended consequence of this business strategy was the slow transition of Germany towards export production with little import, which not only gained the country a net positive trade balance, but made it greatly dependent on the current state of affairs.

The experts point out that Germany and other bigger EU states declined to adopt reflationary policies back in their time and thus only created additional upward momentum for the exchange rate of the euro and worsened the position of the countries already having trouble with serving their debts.

Moreover, the German authorities also declined to distribute the adjustment costs more equally to help the other members of the Eurozone, fearing additional pressure on their people and the banking sector, Federico Steinberg and Mattias Vermeiren write.

According to the economy researchers, these steps slowed down the real inflation in creditor states and accelerated real deflation in debtor states, putting the latter in an inescapable situation and hindering the so-much-needed economy growth.

At present, Germany, the country with great sunk costs in the European currency integration project, de-facto became a hostage of her own success, since the breakup of the Eurozone plagued by debt would be a great strike for the German banking system, and then for the population as well, the analysts claim.

“These material costs – which are the flipside of the increasing returns of European monetary integration – have made the exit option increasingly unmanageable, pushing the German government to make the European monetary union sustainable rather than allowing European monetary disintegration,” write the economy researchers.

As a result, they say, the German authorities now have no other way to protect the German people from economy shocks already experienced by Europeans but to allow the European Central Bank (ECB) to be more unorthodox in its choice of ways to stimulate the economy to stabilize the markets and reduce deflationary pressure.

“[The ECB] was the first major central bank to adopt a negative deposit rate of -0.1% and launched a new ‘targeted’ 400 billion euros long-term refinancing operation program,” the experts stress.

They also remind that the ECB launched its QE program in January 2015, where it agreed to purchase securities for an immense sum of 60 billion euros monthly up until late September 2016, and the officials at Brussels admit there is a potential to restart this project if necessary.

However, the economists think the current Eurozone policy is still not adapted for the situation on labor markets of the main creditor countries and provided no help to the weakened economies of the European Union, which may only cause more problems in the future.

Deriving their conclusions from the points mentioned above, the authors suggest that Germany, a victim of its own power, is currently situated “between hell and high water” as the future of the European economy union is directly defined not just by the authorities, but by the stance of the German business as well.

“Although the euro’s depreciation might lead to increased tensions with the European alliance’s trading partners if its aggregate current-account surplus keeps rising, the ECB’s policies could also lead to a more symmetrical distribution of adjustment costs by encouraging higher inflation in creditor countries (although in that case, other domestic societal interests – particularly the export-oriented German industry – can be expected to mobilize against the ECB),” Federico Steinberg and Mattias Vermeiren state.

In their opinion, the German authorities should have worked on a more symmetrical distribution of debt between the European countries, agree on debt mutualization in the EU, and make the ECB policy more accommodating to help the weaker economies, back when there was the time.

Discussing the presently available means to hold the Eurozone from dissipation in the future, the researchers suggest to conduct a structural reform and organize a debt mutualization system within Europe through a banking union with a common backstop fund.

“We believe […] that the sunk costs of European monetary integration are too high for Germany to a priori exclude the possibility of domestic political support for such a potent backstop,” the experts stress.

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