Master Werenfrid’s Challenge

by Henry on September 7, 2012

I don’t have much to say about the politics of the new ECB proposal that I haven’t said at greater length already. Matt Yglesias is right to see this as a power shift, but it’s one that’s been in the making for quite a while. The policy of ‘comply with our demands for austerity or we’ll pull the plug’ was executed through confidential letters rather than public announcements up to recently, but it was still the same policy. And I’m not sure that it’s a power grab as such – I don’t think the ECB has planned this, so much as been pulled into a vacuum created by the corrosive cross-national politics of conditionality and implicit or explicit transfers.

Which brings us to the Bundesbank’s public opposition to the deal – it describes the purchases as “tantamount to financing governments by printing banknotes.” There’s a relevant quote in Harold James’ excellent forthcoming history of European Monetary Union, which I don’t want to talk too much about, since I’ll be reviewing it elsewhere. One of the very interesting discoveries he has made is a non-public speech that Helmut Schmidt, then the German Chancellor, made to the Bundesbank at a somewhat similar juncture in the 1970s. Germany was being pushed to support the then-European Monetary System (a complicated class of a dirty float that was supposed to lead, somehow, someday, to proper monetary union), but the Bundesbank wanted a stipulation that Germany could opt out of unlimited intervention, if this threatened domestic price stability. Schmidt secretly agreed (the precondition was discovered later), albeit with some hesitation. From the speech (which James quotes in extenso – there is plenty more juicy stuff that I’m leaving out):

What interests me here is a part of the third point of your letter. I must say to you openly that I have quite severe misgivings about a written specification of this sort, a written specification of the possibility of an at least temporary release from the intervention. Let us first of all assume that it appeared tomorrow in a French or Italian newspaper. What accusations would the newspapers then make in editorials against their own Government who got them mixed up with such a dodgy promise with the Germans … In the matter itself I agree with you, gentlemen, but I deem it out of the question to write that down … there has been a beautiful saying in the world for two thousand years: ultra posse nemo obligatur. And where the ultra posse lies one decides for oneself. My suspicion is that, if it came to a real crisis, … the debtor countries clear out first and not the creditor countries. But it could perfectly well be the case that the creditor Federal Republic might one day have to clear out; it is all thinkable, only one cannot write such a thing down.

The Bundesbank’s ostentatious dissent from the ECB program is plausibly both a genuine statement of disagreement, and an implied statement that there are stark limits to what Germany will bear – that if the program does turn into unlimited support for weaker states, Germany will exercise its ultra posse and pull out of its obligations. This threat doesn’t have to be explicit to be understood. This in turn highlights the complexity of the expectations that the EU has to manage at the moment. On the one hand, the EU wants to convince financial markets that this is all going to work – that the ECB will do whatever is needed to keep EU going, in the hope that this calms down expectations, so that it doesn’t actually have to use the big bazooka. On the other, the EU (and in particular Germany) wants to convince countries such as Spain that ECB support is conditional on politically ruinous austerity measures. The Bundesbank’s public disavowal of ECB policy arguably makes the latter argument a little more credible, by signalling that this is the best deal that Spain is likely to get. However, by hinting at the limits of German support, it also suggests that the ECB’s ‘unlimited support’ may in practice be more limited than it sounds, generating the risk of market uncertainty.

Gene Wolfe writes in the Book of the New Sun of an executioner:

a certain Master Werenfrid of our guild who in olden times, being in grave need, accepted remuneration from the enemies of the condemned and from his friends as well; and who by stationing one party on the right of the block and the other on the left, by his great skill made it appear to each that the result was entirely satisfactory.

The EU will have to do its damnedest to emulate Master Werenfrid if it wants to pull this off.

{ 43 comments }

1

Josh G. 09.07.12 at 3:26 pm

I’ve said this before, but I think that the oppressed states of the EU need to call the ECB’s bluff by simply running their own monetary policy. According to Wikipedia, there are Euro printing presses located in most EU countries, including Greece, Italy, Spain, and Ireland. The governments of these countries should simply order that the printing presses be cranked up. This would violate treaties, but so what? The spirit of the treaties has already been broken by ECB/Fourth Reich dictatorship.

2

Bruce Wilder 09.07.12 at 3:43 pm

“politically ruinous austerity measures”

Aren’t the austerity measures simply “ruinous”, politically and otherwise? 25% unemployment is Great Depression stuff.

A logical path out, at the beginning of the crisis, was for the peripheral countries to default and resume the use of national currencies, but that wasn’t a path national leaders seemed to have the credibility or intelligence (or simply integrity?) to carry off, when it was possible and the “rescue” has been structured to make it impossible. Greece is on the verge of famine as it is.

Now that the Germans (and French) have managed to use the “rescues” to reduce the exposure to risk of their own financial systems, another logical path out of crisis is emerging: let Germany leave the euro. An ECB, which isn’t operating as a clone of the Bundesbank, might be quite effective at bringing the economies of the peripheral countries back from the precipice, and the Bundesbank could help Germany handle its own pending plunge into recession, if it had national options.

Ireland and Greece were too small for anyone to care about their suicides. Spain is a little scarier because of its size, and has had more leverage as a result. Italy is simply unthinkable. And, the President of the ECB is . . . an Italian! Amazing coincidence.

Rather than doubling down on the policy of ruining the peripheral countries — intensifying the threats made to Spain, I think the dissent of the Bundesbank might be a first signal of another feasible path emerging. De-coupling Germany would give the ECB a great deal more freedom to solve the problem it created.

3

Mandos 09.07.12 at 4:38 pm

Rather than doubling down on the policy of ruining the peripheral countries—intensifying the threats made to Spain, I think the dissent of the Bundesbank might be a first signal of another feasible path emerging. De-coupling Germany would give the ECB a great deal more freedom to solve the problem it created.

This is a political no-go. Having Germany in the Euro is the point of having the Euro from the perspective of its creators. You can see this current crisis as (partly) the Germans having successfully fought back against attempts to make Germany more like the rest of Europe. When it looked like convergence was happening (Germany started running Maastricht-violating deficits), the SPD pulled out Agenda 2010.

4

P O'Neill 09.07.12 at 4:39 pm

Josh, they don’t need a printing press. The payments system (Target2) will do just fine. This FT blog piece from Gavyn Davies is well worth a look, relevant to both the payments system and Henry’s broader point … the limits in the debtor countries are also an issue.

5

rf 09.07.12 at 5:11 pm

“A logical path out, at the beginning of the crisis, was for the peripheral countries to default and resume the use of national currencies, but that wasn’t a path national leaders seemed to have the credibility or intelligence (or simply integrity?) to carry off”

Could you elaborate on how the second part of this could actually have been achieved? Just saying something doesn’t make it feasible

6

Bruce Wilder 09.07.12 at 5:37 pm

rf — I think you are misreading my remark. I wasn’t claiming feasibility; I was asserting the opposite, though attributing infeasibility, in large part, to the weakness of national political leadership and institutions, (weakness, which, not incidentally, made the Euro appealing and popular in prospect).

7

rf 09.07.12 at 5:52 pm

Fair enough. Although as an addendum, the Euro is still quite popular in peripheral countries (polling says 70% Greeks; a recent Irish referendum on Europe passed comfortably) so there was never any real popular support to leave voluntary

8

x.trapnel 09.07.12 at 6:16 pm

Might be worth clarifying in the post, for those who aren’t familiar with the book, that Master Werenfrid was a member of the guild of torturers.

9

Stephen 09.07.12 at 7:44 pm

x.trapnel @8: also, if my memory of that excellent book is accurate, the narrator is likewise a member of the guild of torturers and executioners, and finally – not as a guildsman but as his intended fate throughout – a wholesale cannibal.

The comparison with the EU is not without merit.

Bruce Wilder@2: “An ECB, which isn’t operating as a clone of the Bundesbank, might be quite effective at bringing the economies of the peripheral countries back from the precipice.”

Problem: an ECB not operating as a clone of the Bundesbank is unlikely to be able to compel the Bundesbank (and central banks of likeminded nations: Finland, Estonia, Austria, Slovakia, Netherlands?) to go along with its operations; or to insist that the taxpayers of those nations provide funding.

Of the other Euronations: Greece, Cyprus, Slovenia, Italy, Spain, Portugal, Ireland have or may shortly have nothing significant to contribute to the non-Bundesbank operations of the ECB, being insolvent recipients rather than contributors.

Non-Euro EU governments are likely to have the following alternatives: EITHER provide more than one bent hapenny to supporting the dying Euro OR be re-elected.

That leaves the taxpayers of the solvent non-Bundesband-like Euro members of the ECB to contribute to operations of the peripheral countries: as far as I can see, France, Belgium (but I may be wrong about their solvency), Luxembourg, Malta, Monaco, San Marino, Andorra and the Vatican City.

I can see a small problem there also; unless massive inflation, rather than provision of actual money, is the way out. But there is a problem there also, as perceived by the Bundesbank.

10

Stephen Carr 09.07.12 at 8:06 pm

I’m a regular reader of this blog, and am linked to it from my own social justice / mental malware blog. Crooked Timber is easily one of the best blogs in the country in its category, and I’ve actually purchased a number of books at the recommendation of the writers. I’m curious about whom to talk to for reciprocal linking. I’ve not found any contact info on the site to aid in this effort. Does anybody have a clue as to how this can be done–or even gamely attempted? I hope nobody’s overly indignant at this off-topic post. I feel like I have to try. If you’re still annoyed after visiting:

http://wetwarehacks.blogspot.com

…then I’ll take my lumps and bow out. I apologize in advance for any undue irritation this may cause your readers.

Thank you,

Stephen

11

mpowell 09.07.12 at 9:20 pm

rf @ 7: The public doesn’t know anything about macroeconomics or monetary policy. So I wouldn’t interpret public support for the Euro as a genuine democratic desire to maintain a monetary union that doesn’t contain a dual central bank mandate. Mostly the public is just interested in low unemployment, strong wages and reliable pensions and if you can deliver that, all is well. But the strong polling in favor of the Euro probably had some part in tieing the hands of policymakers in peripheral countries.

Stephen@9: Certainly different people have a different take on monetary and macroeconomic matters, but it certainly seems as if there is a chasm of difference in the perception of this issue from one side of the Atlantic to the other. The ECB doesn’t operate with a dual mandate. In some ways, the issue is really as simple as that. As far as I’m concerned it’s not a question of financial support, outside of probably Greece. It’s a matter of marrying appropriate monetary policy to macroeconomic conditions. And the Euro region has been laboring under tighter monetary conditions than the United States while experiencing a vastly more severe contraction in the periphery. In Spain, unemployment is riding at 25%. Unless that is all structural it seems that you could dramatically expand demand through either monetary or monetary backed financial stimulus and the most significant impact would be to start utilizing those idle resources, not inflation. That somebody would look at the problems of a country that had gone from <10% to 25% unemployment in short order without having recently experienced a natural disaster or civil war and conclude that monetary expansion can ahead of time be ruled out as beneficial is simply bizarre to me.

12

Bill Jones 09.07.12 at 10:11 pm

You should update your Grim Gloomworld link. He’s at the Grauniad now

http://www.guardian.co.uk/profile/glenn-greenwald

13

chris 09.07.12 at 11:07 pm

Which brings us to the Bundesbank’s public opposition to the deal – it describes the purchases as “tantamount to financing governments by printing banknotes.”

In normal circumstances, this is a bad way to finance governments.

But sometimes the alternatives are worse…

14

John Quiggin 09.08.12 at 12:19 am

I don’t see the Germans as having a credible threat here. When the idea of a Greek exit was given a hard look, it became clear that it would be catastrophic for the Greeks and disastrous for the rest of the EU. But, given that Greece faced a catastrophe anyway, it remained a serious possibility. For a German government to crash the entire EU economy because it disliked ECB monetary policy settings would be unthinkable. Merkel obviously recognises this.

As regards the opposition of the Bundesbank, they gave loads of leaks about how Weidmann would resign rather than let this happen on his watch, and he’s still there.

15

William Timberman 09.08.12 at 2:16 am

Does anyone share my impression that both Merkel and Schäuble know very well what must be done in the end, but also believe that they must appear to be dragged into it, kicking and screaming, in order to come away from the domestic political consequences with their credibility more or less intact? If so, would this not make Draghi, in addition to being one very concerned Italian, something of a catspaw for those Germans who are a little less stubborn than they’d have us believe in the face of a general Armageddon?

From over here, on the other side of the Atlantic, it’s hard not to believe that at least some prominent Germans are bluffing about this eat-dirt-if-you-want-another-Euro-from-us stuff, but then again, being brash Americans, maybe we’re just deaf to the subtleties.

16

William Timberman 09.08.12 at 2:34 am

As for ultra posse nemo obligatur, I wonder why I don’t remember this coming up in the seemingly endless posts and comments on Graeber’s Debt. Did I just overlook it, or is it generally held to be invalid for a proletariat in extremis. (I’m experiencing a just a twinge of irony here, not trying to derail the thread. Honest.)

17

Afu 09.08.12 at 6:22 am

Stephen @9 ” Problem: an ECB not operating as a clone of the Bundesbank is unlikely to be able to compel the Bundesbank (and central banks of likeminded nations: Finland, Estonia, Austria, Slovakia, Netherlands?) to go along with its operations; or to insist that the taxpayers of those nations provide funding.”

Central banks in fiat currency systems do not need to be funded by tax payers! This whole debate is incredibly frustrating because the ECB system was set up by people who lacked basic knowledge of how monetary systems work. Paul De Grauwe explains the problem clearly,

“The deeper reason for the ECB’s reluctance to be a lender of last resort in the government bond market has to with its business model. This is a model whereby one of the ECB’s main concerns is the defence of its balance-sheet quality. That is, a concern about avoiding losses and showing positive equity – even if that leads to financial instability.

When the ECB was instituted, it was deemed necessary for that institution to issue equity to be held by the EU-governments. Thus the idea was created that in order to sustain its activities the ECB needed to obtain the capital of the member countries. This idea was reinforced in 2010 when a decision was taken by the Governing Council to raise the amount of capital by €5 billion. It is useful to read the justification of this decision: “Taking into account the increase of the ECB’s balance sheet total over the last years, it is considered necessary to increase the ECB’s capital by €5,000 million in order to sustain the adequacy of the capital base needed to support the operations of the ECB” (ECB 2010).

It is surprising that the ECB attaches such an importance to having sufficient equity. In fact, this insistence is based on a fundamental misunderstanding of the nature of central banking. The central bank creates its own IOUs. As a result it does not need equity at all to support its activities. Central banks can live without equity because they cannot default. The only support a central bank needs is the political support of the sovereign that guarantees the legal tender nature of the money issued by the central bank. This political support does not need any equity stake of the sovereign. In fact it is quite ludicrous to believe that governments that can, and sometimes do, default are needed to provide the capital of an institution that cannot default. Yet, this is what the ECB seems to have convinced the outside world.”

http://www.voxeu.org/article/why-eu-summit-decisions-may-destabilise-government-bond-markets

18

Guido Nius 09.08.12 at 11:00 am

There is a remarkable difference between the increasing impatience of semi-professional and professional opinion makers on how the euro crisis is being handled & the expanding soberness about it on the ground. In the Netherlands, the only politician (Samsom of the PVDA) somewhat sober on the matter is taking the lead in the polls. In Germany it seems that the social democrats are gaining mindshare with an equally sober attitude (there was an opinion piece co-authored by Habermas which I read in the paper but can’t find on the internet). Obviously, whatever people may say, the fact Southern Europe is that voters in majority are supporting the tickets of those who say that there were things structurally wrong in their countries and that a comeback will take time.

The move of the ECB (including its timing) is very much in line with the sober point of view. On the one hand, Europe needs to act as Europe but on the other hand all entities making up Europe need to take proper control of their own divergence from standard. You have those like Merkel (and with her German public opinion) who want to be a tad conservative about Europe-wide measures of relief and those like Hollande (and with him probably a majority of the European public) who want to be somewhat lenient to with respect to the structural reforms whose need nobody really debates.

But in the end it is all mostly shades of grey except for the people on right and left who shout that there are magical means by which unemployment and other woes will go to under 8% in a matter of months if not days.

I guess what it shows is that the legitimacy and the due process is farther advanced in Europe as we thought and that Europe’s public and political opinion is more akin to a federal state than it is to a loose opportunistic bond of nations.

19

dsquared 09.08.12 at 11:27 am

According to Wikipedia, there are Euro printing presses located in most EU countries, including Greece, Italy, Spain, and Ireland.

However, there are only a few paper-mills which make blank euro note stock and only two factories which make the particular banknote ink used for Euro notes. None of them are in peripheral countries iirc, and none of them are going to supply to a note-printer that is, effectively, counterfeiting.

I think the big issue I have with Henry’s post is that “The Bundesbank”, “The CDU coalition government” and “Germany” are three entities[1] that can’t be assumed to speak for each other. It’s not at all obvious to me that the German political authorities agree with the Bundesbank’s opposition to the bond-buying scheme.

What we’re actually seeing here IMO is a re-setting of the status of the Bundesbank (as someone said on Twitter yesterday, “Hey Jens, how does it feel to have the same number of votes as the central bank f Cyprus?”). It ought to be, and increasingly is, the Eurosystem’s equivalent of the New York Fed – primus inter pares, but not having a veto or anything daft like that. Adjusting to having this status, and realising that the non-German population of Europe don’t regard it as somewhere between the Turkish Army and the Queen Mother, is a bit tough for them, and perhaps not enough effort has been spent on cooling out the mark.

[1] At minimum; assuming that Merkel and Schauble are on the same page also risky

20

dsquared 09.08.12 at 11:43 am

As for ultra posse nemo obligatur, I wonder why I don’t remember this coming up in the seemingly endless posts and comments on Graeber’s Debt. Did I just overlook it, or is it generally held to be invalid for a proletariat in extremis.

I think what you missed is that Greece, for example, is nowhere near “extremis”. Things are tough there, but not for example as tough as they were in England in the 1940s (bread rationing) and the standard of living is still nearly double all of its neighbours. That’s why staying in the euro has very high poll support and all mainstream political parties were in favour of remaining in the euro and not repudiating the debt. The main voices calling for “tell them to go to hell and relieve our epic suffering” were either non-Greek, or Greeks living outside Greece.

21

bert 09.08.12 at 1:37 pm

The James book sounds interesting.
Surely the main point to take from the Helmut Schmidt quote is not that there is an unstated principle of ultra posse in operation, which may lead to Germany pulling the plug. (After all, the same principle would presumably encourage a less hardline interpretation of conditionality as far as the peripheral members’ reform efforts are concerned.)
Rather, it’s that in the 1970s “one cannot write such a thing down”, whereas in 2012 Bundesbankers not only write it down, but also read out the statement for the television cameras. Schmidt is upholding constructive ambiguity as a tool of European statesmanship. By contrast, Weidmann, in insisting on his right to be explicit, is spreading uncertainty in a very different and possible very contentious way.

22

Adrian Kelleher 09.08.12 at 2:22 pm

@dsquared

Summarising your two posts:

I) Germany is not a monolith. Extrapolation based on statistical averages or party leadership positions unsound.

II) Greece is a monolith. Extrapolation based on statistical averages or party leadership positions sound.

23

William Timberman 09.08.12 at 3:29 pm

dsquared @ 19

You may very well have more insight into the conditions in Greece, and what Greeks themselves think about them than I do, but I’m not so sure that I trust your interpretation of the attitudes of people who appear to be voting with a gun to their heads. No doubt they are hoping that something can still be worked out, but it seems to me that this is more a prayer than a vote of confidence, much as is the case with people in the U.S. who cross their fingers and keep voting for Democrats.

24

rf 09.08.12 at 4:19 pm

“Mostly the public is just interested in low unemployment, strong wages and reliable pensions and if you can deliver that, all is well”

Perhaps, although I think that is more useful in explaining the way the public vote in a specific election, than to understanding popular opinions on complex ideological projects like the EU/Euro. The polling in favour of staying in the Euro has remained quite high despite unemployment varying from 14%-25% across the periphery and wages and pensions being undermined.

“I wouldn’t interpret public support for the Euro as a genuine democratic desire to maintain a monetary union that doesn’t contain a dual central bank mandate”

Maybe not in that framing, but I would interpret 70% of Greeks answering that they want to stay in the Euro as a genuine democratic desire to maintain the monetary Union.

25

rf 09.08.12 at 4:23 pm

By the way, that’s not to say anything about the level of trust in EU institutions

http://www.irisheconomy.ie/index.php/2012/07/31/the-collapse-in-trust-in-the-eu-and-its-institutions/

Or to sign up to the scorched earth policy in the periphery. Just to note that there is no real public desire to exit the Euro, that I am aware of, in any peripheral country.

26

Bruce Wilder 09.08.12 at 7:02 pm

Greece, oddly, is the only European country I have travelled in recently, and I can confirm from my personal contacts, that the Euro continues to be popular, despite the distressing consequences. The irrationalities of austerity, such as reduced spending keeping tourist attractions open, are recognized, but blamed on bureaucrats and politicians, not on the Euro, per se. The Euro remains a symbol of Greece’s aspiration to become a genuine 1st world country, and everything else — everything bad — on Greece’s shortcomings in realizing that aspiration or the inability of this Greek leader or that to negotiate properly and with honest integrity (a quality not attributed to anyone in traditional partisan Greek politics). As a moral narrative, it has a kind of face validity for people — it feels right, and repeating the story, people assume a political attitude of “sobriety”, to echo Guido Nius in his comment above.

As Guido Nius says, those assuming a “sober attitude” tend to accuse the radical, outsider critics of magical thinking, and failing to appreciate shades of grey, etc. Policymakers themselves, I think, tend to frame their own behavior as pressing for badly needed “structural” reforms. Josh Mason’s post from a couple of months ago is very useful in outlining the rhetoric of ECB policymakers.
http://slackwire.blogspot.com/2012/06/pain-is-agenda-method-in-ecbs-madness.html

My personal view is closer to that expressed above by Afu:

This whole debate is incredibly frustrating because the ECB system was set up by people who lacked basic knowledge of how monetary systems work.

I’m not a big fan of MMT, whose claims I hear echoed in Afu’s remarks, but anyone, who sees the core problem as a “technical” one in the structure of the Euro, not the structure of Greece or Spain — Krugman, definitely not an MMTer, for example — is going to share this sense of bewildered frustration.

This disconnection between the “moral narrative” (which informs political attitudes) and the “technical analysis”, which outlines imaginative possibilities for a stable, workable-in-a-functional-sense, institutionalized solution, is a badly underappreciated driver of politics in economic crisis, especially when the technical analysis is weak (as in this case) and has a Gordian knot to cut through (also, in this case — see dsquared’s many remarks).

Historically, people do seem to muddle through great economic crises, . . . or not. The French Revolution, was triggered by the inability of the French state, to establish a workable fiscal and monetary system, and it descended into the conquest of Europe driven by the unwillingness of the revolutionaries to establish a central bank, capable of administering a stable currency. The Great Depression was triggered by the incompetence of the Fed, in administering credit, in the presence of the gold-exchange standard, but a solution was found only in the depths of an extreme economic crisis, when FDR wielded a very mighty sword to cut the Gordian Knot of legal and constitutional protections surrounding the gold standard. I think the Euro crisis easily has the potential to rank, historically, with these kinds of political events — and, that is not a good thing!

27

PlutoniumKun 09.08.12 at 7:06 pm

I don’t think the anger of the Bundesbank is part of some plot, I think its very genuine. The ‘bluff’ is the ECB’s threat to the peripheral countries, they have no real mechanism to ensure weaker countries keep to any agreements on austerity, they know this full well. I think this threat is nothing more than an attempt to make it seem like they are still bullying those countries, while in reality they know that the debtor countries have all the cards (even if those countries, in particular Greece and Ireland don’t seem to realise this themselves). The Germans know full well that any attempt to pull the plug is a suicide option – their banks are in far too deep. I think Draghi has successfully outmanoevered the Bundesbank and the hard money crew, he is doing what is necessary. He learned something in his Goldman Sachs days, thats for sure.

28

Henry Farrell 09.08.12 at 7:10 pm

bq. I think the big issue I have with Henry’s post is that “The Bundesbank”, “The CDU coalition government” and “Germany” are three entities[1] that can’t be assumed to speak for each other. It’s not at all obvious to me that the German political authorities agree with the Bundesbank’s opposition to the bond-buying scheme.

dsquared – that isn’t quite what I’m arguing. There’s obviously some distance between the Bundesbank and the German government. The point is that the obduracy of the former is simultaneously useful (in that it makes it easier to persuade Greeks, Spaniards etc that Germany isn’t going to fold), and anything but useful (in that it makes collapse of the house of cards more likely; also, which I didn’t mention, gingers up the domestic opposition), depending on which way you look at it, and which audience you’re most concerned with. You can think of this as a class of a corollary to the dsquared folk theorem corollary – the increased bargaining clout you get from having a cackling lunatic threatening to shoot you if he thinks you’ve given in to the other side is directly proportional to the risk that he will, in fact, shoot you.

On the question of Germany having only one vote – there is lots of interesting history in James (he got full access to the archives). I’ve always wondered why Germany accepted this – it turns out that it was the experience of the Bundesbank council, with representation of the regional banks, but not weighted, that helped seal the deal. Indeed, James argues that Germany was more powerful in a system based on consensus, but with German assent seen as key, than it would have been had there been some form of weighted voting. I am not entirely convinced by this, but James has seen the original documents …

John Q. – I am not as sanguine about the willingness of central bankers to follow their interests as you are – there is a reasonable chance you are right, but history would surely suggest that they are not the most.

x.trapnel – certain aspects of the reference were indeed left unstated, as an exercise for the reader.

29

rf 09.08.12 at 7:36 pm

“while in reality they know that the debtor countries have all the cards (even if those countries, in particular Greece and Ireland don’t seem to realise this themselves). The Germans know full well that any attempt to pull the plug is a suicide option – their banks are in far too deep.”

Is this still true? I thought most of that debt has been repayed/restructured /taken over by the ECB? (Genuine question, I don’t know)

30

PlutoniumKun 09.08.12 at 8:02 pm

rf – I’m no expert on the topic, but I understand that little or no debt has been taken on by the ECB directly – the liabilities still lie primarily with the original creditors. It is (in theory) the governments that are being supported, not directly the banks, even if it amounts to the same thing in the end*

*as I’m posting this on a Saturday evening after my second beer, this may be entirely wrong.

31

William Timberman 09.09.12 at 1:09 am

Historically, people do seem to muddle through great economic crises, . . . or not.

It’s the or not part that none of Krugman’s Very Serious People, or, in fact Krugman himself, not to mention his many admirers, seem willing to credit. Of course, we’re all heavily invested in not having the-world-as-we-know-it end while we’re still around to be inconvenienced, and the higher up the food chain we are, the more heavily invested we tend to be. Human nature, I guess, but I still find it galling. Every time I hear people winding themselves up to argue a la Steven Pinker that the Twentieth Century only killed x million people for no respectable reason rather than the x-squared million killed in previous, unenlightened centuries, so we’re doing just fine, thank you, I want to put my fingers in my ears and run away. There just ain’t no point….

32

Adrian Kelleher 09.09.12 at 7:12 am

@rf

Germany is heavily exposed, as are its banks, though differently to the way they were two or three years ago.

By now the, the outstanding bonds of the bust banks have mostly been bought out and outstanding government bonds owed to core banks have been rolled over, though of course the lack of creditworthiness of the governments concerned means much of this was effected with ECB loans. The ECB then sterilizes these loans by taking deposits, mostly from core banks.

While these deposits are entirely voluntary and are made on the basis of the commercial attractiveness of the interest rate offered by the ECB, obviously if the whole arrangement collapsed then the core area banks would be left owed massive quantities of money by a defunct institution.

Worse again, quite an amount of the deposited cash comes from private depositors in the peripheral areas fleeing currency risk — the very thing the ECB has declared to be part of history. If the eurozone collapsed and numerous countries defaulted and then floated their own depreciated currencies, much of that capital would return to the periphery having dodged that depreciation. The German banks would have no option but to honour these in just the same as any other private deposits even though much of it would have just gone up in smoke in the demise of the ECB.

German commentators like to mention ECB-mediated obligations to the German banks via the Target 2 system and the competition for German credit this creates. Peripheral commentators like to mention the fact that Germany has in actuality benefited hugely from ECB policies, as have its banks, enjoying even lower interest rates than it might otherwise do, official support for its banks’ foreign bond holdings and commercially attractive investment opportunities at the ECB. In the end each perspective is about equally self-serving.

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Random Lurker 09.09.12 at 10:35 am

I think that many governments and many citizens of peripheral EU are pro euro because they think as creditors: for example many italians own Italian bonds, and people on fixed retirement might fear that if we go back to the lira their retirement will be redenominated in lire and they will lose big from it, same goes for the many savers. For this reason I don’t think that there is a show off between Germany and other countries, I think that governments of peripheral countries are mostly on the same page of Germany and the ECB.
I think that, at least here in Italy but also in the rest of the EU, politicians will try to make the minimum concessions possible to avoid a real breakdown, while pursuing the usual antilabor pro competitiveness policies, because every EU country is quite export dependent (in fact the whole EU project was born as an antimercantilism project).
People like “structural” reforms because the term structural is misleading: for example a politician says “We have to make structural reforms or we won’t have money to pay retirements.” People believe that he wants to cut some inefficiencies (never specified and usually mithical) and vote for him. Then he comes to power and cuts their retirement. They say “what a corrupt guy! If only we could get some politician who can really make some structural reform!”
Thei don’t realize that cutting their retirement IS the “structural” reform, and that their retirement is what those economists see as an inefficiency .
Unfortunately this kind of neoliberal thinking is rooted very deep in the mind.of most people, including many supposedly center left guys.

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Alex 09.09.12 at 11:30 am

Regarding the persisting support for the Euro although economic integration has gone into reverse, with the end of the interbank euro market and the divergence of interest rates as examples, the political element has survived. Perhaps we had it the wrong way up all along?

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Afu 09.09.12 at 7:49 pm

@Adrian Kelleher “German commentators like to mention ECB-mediated obligations to the German banks via the Target 2 system and the competition for German credit this creates. Peripheral commentators like to mention the fact that Germany has in actuality benefited hugely from ECB policies, as have its banks, enjoying even lower interest rates than it might otherwise do, official support for its banks’ foreign bond holdings and commercially attractive investment opportunities at the ECB. In the end each perspective is about equally self-serving.”

I’m not seeing the symmetry here. The peripheral complaint seems to be a conventional (and correct) argument that Germany benefits from low interest rates. The German argument about Target 2 is much more radical. If obligations between regional branches of the central bank are not trustworthy, the entire monetary system is on the brink of collapse. This should NEVER happen. Since the system has only one central bank, there should be no such thing as Spanish or German Euros. If the Target 2 system is truly in danger of breaking down like the German’s claim it is, they should be more outraged, more panicked and should be calling for fundamental reorganization of the Euro system. Instead they focus all their energies on calling for reforms to the fiscal systems of peripheral countries which are only tangentially related to Euro system itself.

The most useful way I have found to think about the euro crisis is that the euro system is a 90′s Washington consensus style fixed exchange rate system on steroids. These systems, from Mexico to South East Asia to Argentina, tended to end badly, and were made worse by insistence from the IMF that austerity and structural reforms were all that was needed. The really galling thing is that even the IMF now seems to recognize that this was a mistake. They don’t believe in the Washington consensus in Washington anymore, but somehow it persists in Brussels.

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rf 09.10.12 at 12:12 am

Thanks for the clarifications PlutoniumKun and Adrian K

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Zamfir 09.10.12 at 2:59 pm

@afu, there might be similarities to the washington consensus, but there are huge differences as well. The eurozone is much closer entwined than those cases, and there really is much more mutual goodwill and trust involved. The current discussions and negotiations already involve long term permanent transfers of power and money through European institutions, in a way that would be unthinkable for IMF cases.

The worry is that this is still not enough to keep the Euro stable, and that the actually required level of centralization goes beyond the acceptable. But that’s a very different issue than in those 90s cases.

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Afu 09.10.12 at 5:37 pm

@ Zamfir

Your points are valid, but I view the Eurozone and Washington Consensus fixed exchange rate systems are similar because they both are systematically inclined to pro-cyclical capital transfers. In the upside of the cycle low interest rates and inflation deferentials encouraged capital movements into peripheral / developing countries causing credit booms, while on the downside rapid capital outflow destroys government revune collection and causes a debt deflation recession. Unless this pro-cyclical element in the system is addressed, the Eurozone will continue to have similar crisis.

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Bruce Wilder 09.10.12 at 6:01 pm

I view the Eurozone and Washington Consensus neo-liberal ideology as similar, because both resemble the self-justifying hypocrisy of a sadistically abusive parent, who claims to administer “discipline” only for the child’s own good, while looting the child’s trustfund.

Zamfir talks of “long term permanent transfers of power and money through European institutions” and I smell b.s.: transfers from whom to whom. What’s the net, here? Do we count firesales of public assets? Do we worry about the destruction of 25% unemployment?

There’ a fantastic conflict between manifest function and latent function, here. The shortcomings in the institutional design could manifest the hope and expectation of European leaders that they would fashion closer integration in the future. That’s a lovely story. Or, the shortcomings in the institutional design could be a way to facilitate looting by banksters and to destroy the welfare state and drive down wages.

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Barry 09.10.12 at 6:10 pm

John Quiggin 09.08.12 at 12:19 am

” For a German government to crash the entire EU economy because it disliked ECB monetary policy settings would be unthinkable. “

Why? It’s clearly thinkable, and Germany seems to be doing that (or at least trying hard). IMHO, what’s happening is that they *are* doing that, and everybody redefines ‘normal’ to include a trashed economy.

” As regards the opposition of the Bundesbank, they gave loads of leaks about how Weidmann would resign rather than let this happen on his watch, and he’s still there.”

A man deliberately leaking unofficial word about how honest he is, and then going along with bad policies is clearly unthinkable :)

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Bruce Wilder 09.10.12 at 8:31 pm

Barry: “It’s clearly thinkable . . . “

Maybe, “think” is the wrong verb, since much of this neoliberal policy is rationalized and legitimized by the useful idiocy of neoclassical economics, and the politics proceeds in a fog of deranged moral narratives, which allow empty poses of “seriousness”, coupled with the “technical” distraction of trying to solve an unsolveable Rubik’s Cube of jumbled policy instruments and options, most of them ill-named, beginning with the appellation, “rescue”.

We might want to consider the possibility that many of the principal players are incompetent and thoroughly confused, themselves, having lost track of what’s real and what’s possible, as well as what is just.

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Kevin 09.11.12 at 1:24 am

Sometimes it just seems like the ECB keeps going back to re-read Sargent & Wallace’s Unpleasant Monetarist Arithmetic (http://www.minneapolisfed.org/research/qr/qr531.pdf), then get scared and stop thinking anymore.

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Barry 09.11.12 at 1:48 pm

Bruce: “We might want to consider the possibility that many of the principal players are incompetent and thoroughly confused, themselves, having lost track of what’s real and what’s possible, as well as what is just.”

Except that they never lose track of what benefits them (at least in the short and medium run). They make sure that the elites are bailed out.

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