“There is no more risk that the euro will implode,” declared French President Nicolas Sarkozy on Friday, two days before the first round of the presidential election. Europe is “recovering,” he said desperately. Thanks to his leadership. To make sure that Europe doesn’t fall back into the hole, the French would need to reelect him. A few weeks ago, he’d proclaimed “The crisis is finished.” But Spain may require an emergency bailout of such proportions that the IMF is already collecting hundreds of billions of dollars from around the world. Then there is Italy….
However, François Hollande, the socialist challenger and likely winner, has a prescription for fixing the very crisis that Sarkozy declared finished, he confirmed on Friday. If elected on May 6, he would immediately set out to implement his ambitious plan—though it might lead to the break-up of the Eurozone.
He’d renegotiate the fiscal union pact, a hastily drawn-up document that is supposed to induce budgetary discipline into the 25 governments that signed it in even greater haste. The pact is German Chancellor Angela Merkel’s grand oeuvre. She forced it through at the height of the crisis. But Hollande wants to include provisions for additional government spending and borrowing, his “measures of growth,” and he’d block ratification of the pact if he had to.
Then he hammered home just how serious he was in pushing the ECB to print money and lend directly to the governments. “It’s incredible that the ECB floods the market with liquidity,” he said, and that the “banks borrow from it at 1% and re-lend to the States, specifically Spain, at 6%.” Oops, he saw the 5% spread. A breath of fresh air. A politician who looks at the numbers!
“There comes a moment when one can no longer accept phenomena of that kind of income,” he added with an eye on the €1 trillion that the ECB lent to the banks via its Long Term Refinancing Operations. “It would be more judicious, more efficient, and faster for the ECB to lend” directly to governments “as first and last resort.” In other words, he wants to cut out the middlemen, namely the banks. And he has his eyes open: “I know that the Germans are totally hostile to this; well then, this will be part of the negotiation.”
But he is dreaming; in Germany, frustration with the ECB’s bond purchases caused two well-regarded German central bankers, Axel Weber and Jürgen Stark, to resign from the ECB last year. The €1 trillion LTRO actions have heated up opposition to the ECB. And now, the battleground is the “Target 2” balance of €800 billion, of which €635 billion is owed the Bundesbank. Long swept under the rug, then declared harmless while mushrooming unchecked, it is now inciting a rebellion of sorts in Germany. Read…. Bundesbank Gets Sued for Perfidy.
Thus, the conflicts between the ECB and the Bundesbank, and now the German government, can no longer be bridged with soothing words. Former German central bankers are shaking their heads in dismay, wondering if ECB President Mario Draghi will ever draw a line as the ECB, tangled up in sovereign debt and bank bailouts, is abandoning its treaty-set monetary stability priority—and its independence.
Exactly what the Southern European countries, including Draghi’s Italy and Hollande’s France, demand. They’re in the majority. An eternity ago, the Bundesbank with its 27.1% share practically controlled the ECB. No longer. Yet Germany has its own issues. After nearly two decades of declining real wages, a stagnating economy, and high unemployment, optimism has set in and is driving internal demand, even as the powerful export machine has slowed down a notch. Inflation is raising its ugly head. And central bankers see a nascent housing bubble—and the blood-letting that will follow..
Germany needs a tighter monetary policy—which would be the last straw for teetering economies like Spain and Italy. While the ECB is contemplating even more purchases of sovereign debt, the Bundesbank wants it to exit from its existing positions. And the time frame for the exit is one year.
Just enough time for Hollande to get his feet wet. He is already building alliances to be able to hit the ground running. “I have met with many European heads of State, and hardly anyone is satisfied with the economic situation,” he said in an interview. “I’m not isolated. A common initiative is possible.”
He might succeed in building enough momentum to push the ECB where he wants it and put the fiscal union pact back on the table. Despite his reassurances—“No matter what happened during the campaign, if I’m elected, my first visit will take me to Germany”—his policies are anathema to Merkel’s government and the Bundesbank. And the unity of the Eurozone could be at risk.