Is Germany Going To Change Policy On The ECB and EU Bonds?

There was an interesting interview, this morning, on Bloomberg, with Peter Bofinger, the economic adviser to Angela Merkel.

Bofinger argued that it was important that the ECB acted like other Central Banks, and became a lender of last resort, engaging in Quantatitive Easing, to buy up the Bonds of Eurozone countries such as Italy, Greece, Spain, Portugal and Ireland, which are facing falling prices for their Bonds on Capital Markets, which means that they will face higher borrowing costs, in future, when they come to sell further Bonds. He also argued in favour of the establishment of EU Bonds.

Given that the main obstacle, to both these changes, has come from Angela Merkel, it is important that Bofinger came out on Bloomberg today, as the Eurozone Debt Crisis rumbles on, with Italy now being drawn into the whirlpool. On the other hand, Bofinger has been making similar arguments for several months now.

The importance of these two measures has been demonstrated over the last week or so. Firstly, it became clear that not only was the proposal to leverage up the size of the EFSF to €1 Trillion, still not enough to deal with the situation, but, without a single state, like Germany standing behind it, the markets would not have the necessary confidence in it, to bring in the necessary investment.

China, which could provide the funds, quite easily, said, openly, that it would not do so unless Europe itself got its house in order, and showed itself prepared to defend its own currency. In other words, Europe had to create a single state that would stand behind the Euro, and which would have the credibility to guarantee its debt. That is where EU Bonds, issued by the whole Eurozone, and with the whole of the Eurozone i.e. Germany, standing behind them come in.

Secondly, before the Capital Markets would invest in EFSF Bonds, or EU Bonds, they would need to see some lender of last resort already in the market, providing the necessary liquidity, and, ultimately, the ability to step in to ensure that the value of those Bonds could not drop through the floor, as happened with the existing peripheral economy Bonds. At the moment, EU Law prevents the ECB from printing money.

It can step in to buy Bonds in the secondary market, but cannot buy in the primary market. Even its purchases in the secondary market have to be "sterilised", by the withdrawal of liquidity from elsewhere in the system.

As Bofinger set out, in order to have the kind of heavy weaponry, needed to show the Capital markets that it meant business, it would be necessary to have the ability to rapidly buy up Bonds, using hundreds of billions of Euros at a time. It is not possible to do that, if you have to withdraw a similar amount from elsewhere.

The German argument, against enabling the ECB to act as lender of last resort, and have the ability to print money, is supposed to be based upon its experience of the Weimar Republic.

Then, large amounts of paper currency was printed that led to a rampant hyper-inflation. People carried home notes in wheelbarrows, which were worth more than the millions of Marks carried in them. But, this argument is spurious. As Ben Bernanke has pointed out, in relation to the US policy, of Quantatitive Easing, Central Banks know how to stop hyper inflation, you stop printing money and raise interest rates. What they have difficulty with, however, is deflation, as the current experience in Japan has shown, where falling prices have persisted for more than a decade, despite negative real interest rates, and massive money printing.

The Weimar Republic printed vast amounts of money, as a means of paying off the terrible burden that the Allied Powers - minus the US, who opposed the action of Britain and France in that regard - imposed on Germany as part of the Treaty of Versailles. In short they paid back their debtors with worthless money.

It was a strategy that the US has adopted from the 1970's onwards. The printing of vast amounts of money, would undoubtedly raise inflation, but that has always been the means by which Governments, going back to Moses, have used to clear their debts. It would be a much less painful solution than the counter-productive austerity measures being advocated by neo-liberal dogmatists at the moment.

Germany has also opposed EU Bonds, on the basis that without the kind of Budgetary discipline that comes from having a single state, and fiscal union, it would be guaranteeing the loans taken out by other countries, who might borrow recklessly, to finance consumption rather than the investment those economies need to restructure, and make competitive their industries, and infrastructure. But, the reality is that if the Eurozone is to continue, Germany has to pay that cost one way or another.

For the last decade, Germany's economy has done very well from selling Mercedes and other goods, to other parts of Europe, including those peripheral economies, that borrowed to pay for them. If those economies sink, then German's economy, which is reliant upon exports, will sink with them.

In fact, what Germany has been manouevring to achieve, is the establishment of a fiscal and political union on its terms. In the last couple of weeks, we have seen Germany and France, essentially impose Governments on Greece and Italy. Measures have now been introduced that enable Eurozone countries to exercise control and oversight of the Budgets of other Eurozone economies. In other words, the basic framework of a fiscal union is being established.

It is being done, bureaucratically and manipulatively, in the way that the EU has proceeded for much of its history. But, given the immediate need to bring about these changes, and the likelihood that attempting to do it, via democratic means, would simply result in a logjam, like that which has caused the political crisis in Europe so far, they probably have concluded that these kinds of methods are the only ones available to them.

That is no reason that workers should accept that. On the contrary, it is the opportunity to demand that the EU be subject to a thorough democratisation from top to bottom.