German austerity is not the answer

stefan-auer-thumb Assoc. Professor Stefan Auer
Email: s.auer@latrobe.edu.au

 

First published in The Australian on 29 October, 2012.

In Europe's new capital, Berlin, Mario Draghi had to subject himself to a parliamentary grilling, the aim of which was to establish whether he was sufficiently German. No, this was not about racial profiling. And yes, the president of the European Central Bank is an Italian citizen. But is he an Italian central banker?

This is what many Germans have always feared. Would the euro that was meant to be as stable, reliable and non-inflationary as the German mark become more like the Italian lira used to be?

In order to address such anxieties, when Draghi took over the leadership of the ECB last year, he presented himself as someone unashamedly Germanic in his outlook.

Draghi promised that his monetary policies would live up to the tradition of the Deutsche Bundesbank. This meant that the ECB would guard its political independence and vigorously pursue the goal of price stability.

In line with this, Draghi also argued that Europe's struggling economies should follow the German example and improve their competitiveness through structural reforms and reduced government spending. In recognition of his views, the most popular German tabloid, Bild, in an interview with "super Mario" earlier this year went so far as to present him with a spiked Prussian helmet.

All this has changed. Draghi's pledge to do "whatever it takes" to protect the integrity of the eurozone followed by the announcement of the Outright Monetary Transactions scheme in September this year marks a radical departure from the ECB's earlier commitments. The scheme, which enables the ECB to purchase government bonds, undermines its political independence and creates significant inflationary risks. If the policy is pursued, Bild will soon want its helmet back.

Yet, the tide is turning. The German-led focus on fiscal discipline and austerity has backfired. There is a growing realisation that its attempt over the past two years to make the rest of Europe more German has failed.

It made a bad crisis worse, condemning Greece, Portugal and Spain to a downward spiral of economic contraction and rising public debt, with no signs of improvement in the foreseeable future. Even Ireland, which seems to have defied this trend somewhat, is struggling to keep its economy growing.

Both Martin Wolf in the Financial Times and Paul Krugman in The New York Times have argued for some time now that the German "austerians" - advocating austerity policies inspired by Austrian economists - have lost the battle of ideas. Their calls for Keynesian measures have been echoed by conservative commentators and private investors. More significantly though, even the International Monetary Fund reversed its earlier position, further isolating the proponents of fiscal consolidation.

Clearly, the German leadership of Europe proved misguided. But Germany's policies were so bad not even their opposite is right. That is, the attempt by the rest of Europe to make Germany more Italian is bound to fail too.

To start with, austerity is not just about the German fear of inflation. In addition to reckless spending, what particularly upsets many Germans about Greece is that it repeatedly violated the existing rules.

At the heart of the post-war success of West German democracy are two key commitments: the commitment to European integration and the commitment to the Rechtsstaat, that is the rule of law. Until recently, these two commitments went hand in hand - the European Union has been the German Rechtsstaat writ large.

The crisis is dramatically changing this equation. Exceptional times require exceptional solutions that cannot be found in the rulebook. The ECB, for example, is explicitly forbidden from financing the states and no amount of financial engineering can disguise the fact that the Outright Monetary Transactions program pursues that very aim.

Or can it? Is Draghi still sufficiently German?

If you trust the judgment of Norbert Barthle, an MP from the ruling Christian Democratic Party, then all is well with Germany and Europe: "Draghi appeared to us as a Prussian southern European."

Associate Professor Stefan Auer is the Jean Monnet Chair in EU Interdisciplinary Studies at La Trobe University