In the early days of September, financial markets worldwide were nervous. Investors and governments were waiting for a crucial ruling of the Federal Constitutional Court of Germany, a ruling that could have triggered the imminent collapse of the world’s second currency, the euro. This past Wednesday, the court ruled that the German bailout of Greece did not violate the German Basic Law (i.e. constitution), and investors breathed a collective sigh of relief.
The court's decision paved the way for the euro and stock markets to rebound strongly and precious metals to fall back. In addition, there were reports that China would end its series of rate hikes. By the close, news emerged that the Italian Senate had agreed to an austerity program. Markets rallied further. Commentators were ecstatic. And, almost universally, no thought was given to the long-term consequences of these moves.
I accept that the German court ruling averted an imminent disaster. But it may ultimately undermine any hope that eurozone can become a healthy currency bloc again.
Europe still has a critical problem with public debt. Despite austerity programs that push past the tolerance of local populations, Italy and Greece still have debt-to-GDP ratios of over 100%. The eurozone's core countries, France and Germany, are above 80% on that measure. It is clear to me and my colleagues at Euro Pacific that debt at these levels will mean partial default.
But the manner of that default can be either honest or dishonest: either bondholders are told what the losses will be or the currency is devalued to pay back the nominal obligations. The EU elites are pushing for the dishonest option, and it seemed like the German court ruling would be a victory for monetary union – for the purposes of transferring debt to the Union and then using inflation to reduce it. This route would prevent any breakup of the euro in the short-term, but turn the currency into another fiat basket-case in the mid- to long-term.
However, for hard-money adherents, the German court issued two additional rulings that leave a shred of hope.
First, the court ruled that any future German financing for the purpose of bailing out another nation would require the prior agreement of the German Parliamentary Budget Committee.
Second, the German court issued a press release emphasizing specifically, that “[t]he Bundestag, as the legislature, is also prohibited from establishing permanent mechanisms… which result in an assumption of liability for other states’ voluntary decisions, especially if they have consequences whose impact is difficult to calculate.”
On their face, these rulings seem to restrict severely the ability of German Chancellor Merkel to offer sweeping assurances of rescue to fellow eurozone member-states. Specifically, the rulings appear to put an end to speculation of potential pan-European bond issues. This is generally positive for the currency, but potentially disastrous for the Union.
However, what many observers may overlook is that the court indicated that greater German control over the fiscal policies of other states could circumvent constitutional restrictions. As Germany begins to argue that the only way it can finance the eurozone is if it controls the bloc, it may achieve a century-old goal: imperium over the whole of Europe.
Viewed this way, the German court appears to have issued a most clever ruling. It prevented the immediate collapse of the euro by ruling the past German bailout of Greece acceptable. Then, it appeared to put handcuffs on Chancellor Merkel for any future bailouts, while, in the same stroke, bypassing the peoples’ representatives in the full German Parliament by placing authority for the crucial pre-approval in the hands of the Budget Committee, a body far more easily influenced by Merkel.
At the same time, the court left Merkel with only two paths forward: withdraw Germany from EU fiscal affairs, or exert enough control the Germany becomes the de facto sovereign of Europe. Since the German elite is quite invested in the common currency at this juncture, it seems the court has fixed the country on the track of establishing an economic über-empire.
Unfortunately, as is the tendency with empires, the Germans will be taking on responsibility for her wayward provinces in addition to her own debt problems. While this will stabilize the euro in the short-run, I am not confident that Germany has the financial muscle to hold up the PIIGS forever.
Instead, the ECB will come under even more pressure to devalue the euro, robbing the savings of Germans, Finns, and Dutch to pay for the excesses of Greeks, Italians, and Portuguese. The end result of this process is the same for euro as it is for the dollar: high inflation leading toward currency collapse.
The risk is that Germany ends up being buried in a palace of its own construction.
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