Europe and the German Dilemma

Twenty years after the Treaty of Maastricht came into force, Europe is on the verge of making decisions which are equally as fundamental as back then. The debate over which strategy of combating the crisis is more appropriate, fueled by the election of Francois Hollande as the new President of France, is not merely an argument between two schools of economic thought: the proponents of austerity and budgetary discipline and the advocates of Keynesian belt-loosening with a view to boost the economic climate. The stakes in this game are not just economic, but rather political. Searching for the right method to prevent a catastrophe for the common currency, the European Union is returning to questions which had not been answered in Maastricht: to what extent is deep economic and currency integration possible without a political union? And, if we suppose it’s not, what shape should the European federation take and should it sustain its basic democratic mechanisms which so far have been vested in nation-states?

Just like twenty years ago, Germany is now central to the European dispute. Maastricht was an answer to the German question which Europe faced after the unification of Germany: would the emergence of a unified Germany not disrupt European balance for good? How could we guarantee that the force of the German giant serves Europe, not threatens it? The answer provided to the dilemma: “European Germany vs. German Europe” was to have “more Europe”; through the deepening of the common market and the introduction of a common currency.

No wonder then that the collapse of the Maastricht system, threatening the demise of the Euro area with a dramatic social-economic crisis, as well as a debt crisis for many Member States, has forced Europe yet again to answer the “German question”. Today’s discrepancies in Europe have never been more visible. Germany has outdone other countries, not only outperforming them with regard to economics, but also politically, gaining a dominant position in the political maneuvering over anti-crisis measures. In the world of financial capitalism, probably the best reflection of the present distribution of power can be observed in the issue of bond interest rates. In May 2012 people purchased German securities not expecting any profits. This situation was unprecedented. While the European Union as a whole found itself at a stage of unusual weakness, Germany—which until the end of the 90’s was sneered at and named a European latecomer—has managed to reach the peak of its strength.

Gulliver in the Heart of Europe

Twenty years ago, fears of an untied Gulliver in the heart of a Lilliputian Europe were expressed as fears that history might repeat itself and that a “German Europe” would again be dancing to Berlin’s tune. What about the present? Admittedly, Germany in recent years has been pushing for austerity in vulnerable Euro area states, a tendency manifested as a fiscal package, imposed on them despite the resistance of citizens and doubts from economists. The reign of the asymmetrical “Merkozy” tandem could hardly be described as an hour of glory for democracy and European solidarity. Government reshuffles in Slovakia, Greece and Italy occurred not only under market pressure but also under clear political pressure exerted by Berlin and backed up by Paris. Thus, political balance in Europe came to nothing. Yet the dynamics of the Euro crisis, despite its utmost significance, is not everything. In other domains you can barely observe Berlin’s leadership or hegemony. The war in Libya yet again clearly showed that Germany is not able to take on more responsibility in a field which has key importance for the EU’s future: security and defense policy. It is failed strategic thinking and the weak military capacity of the Germans which are one of the reasons why European cooperation is ailing. Cassandric prophecies from the beginning of the 90’s heralded a thoroughly opposite situation.

Europe’s German problem as of today is not about Berlin—well-aware of its power—trying to impose its own will on the rest of the continent. It’s more closely related to the fact that in the time of the largest crisis in EU history Berlin is not prepared to unwaveringly rush to save it. Polish Foreign Minister Radek Sikorski was right in saying that in the current situation we should fear German power less than Berlin’s inactivity. Therefore, a viable worst case scenario for Europe is no longer a new German hegemony but the collapse of the European Union. If Germany does not take any decisive actions any attempts to save the Euro, and the whole EU for that matter, are doomed to failure.

European minds are anxious about the future of the Old Continent and are preoccupied with the question posed by Wolfgang Proissl: “Why has Germany fallen out of love with Europe?” Some claim Germany has evolved into a geo-economic superpower, whose interests, as Hans Kundnani claims, are gradually shifting towards the borders of the Old Continent. Whereas others believe the reason for this can be found in generational changes or in Berlin’s aspirations to maximize its influence in the EU, the last view being represented by Marek A. Cichocki.

No doubt, those explanations are essentially right. But the most crucial change in Germany’s attitude to Europe does not concern the redefinition of their national interests, or in subsiding pro-European emotions. Rather, it results from the feeling, growing pervasive in Berlin, that measures necessary to save the Euro area and EU cohesion mean not only a considerable financial outlay, but also require that Germany, as a matter of priority, should revise things which so far they have taken for granted in the field of their economic policy and their vision of Europe. German elites lack the conviction that the necessary next step towards deepened integration can be reconciled with the German post-war economic and political model, which has so far led to success, first in West Germany and then in a unified Germany. If you look at the history of integration, such a situation has occurred for the first time. It actually reflects the new “European question” of Germany: in order to save Europe, Germany must reinvent itself.

No More Illusions

One thing remains sure: throughout the postwar decades Germany put considerable effort into deepening and widening European integration. Consequently, it contributed to an increase in prosperity and stability in Europe. At the same time, Germany was perfectly aware that this served very well its own development and politically stated goals. Obviously, it’s exclusively through European structures that Germany, following the war, was able to regain its reputation and political position within Europe. Also, the German economy profited from closer and closer integration among European states. Not without reason, the dynamics of German involvement were influenced by European integration milestones: the establishment of European Coal and Steel Community, the introduction of a common currency, the European constitution and successive stages of enlargement. All those projects had much in common in that they all led to structures within the European Union which allowed Germany to be in its element.

The rules of the game used within the German political system were adopted as basic principles underlying EU functions. European structures reflected the principles of federalism; this applied to subsidiarity, operation of structural funds, and, most of all, to the monetary union modeled after the Deutsche Mark, based on the independent European Central Bank, budgetary discipline and low rate of inflation. In many respects Germany was a role-model, which proved beneficial for the European Union, but also for Germany itself. This is how German “export of institutions” to the EU was performed: Germany did not have to impose their hegemony and it sufficed that they stuck to the rules which they knew so well from their own political system in order to exert efficient impact on others. In this sense, the Maastricht Europe was very “German” since it was created according to a German recipe. The symbiosis between the interest to build common European and German interests was visible also in the case of such projects, deemed as controversial in Germany, as the common currency or EU’s enlargement to the East. Even though they were not particularly popular among society, German elites were perfectly aware that these projects would act as a springboard for the German export-oriented economy.

It may be true that German foreign policy is nowadays directed, to a more considerable extent than in the past, by economic motivations. However, it would be wrong to assume that in the past Germany shunned them or that they were insignificant. But the difference is that in the contemporary view, until the outbreak of the Euro crisis, the European economic model based on the single market, low inflation rates, doing away with trade barriers—in a word on “German recipes”– fit perfectly with the German model and guaranteed its successful development. The breakdown of the Maastricht system and the emergence of the disastrous effects of the monetary union deprived of common economic and fiscal policy totally disrupted the symbiosis. From the viewpoint of Germany, the Euro crisis means not only financial risk, related with the necessity to save countries on the brink of bankruptcy, but also, painfully, saying goodbye to numerous illusions.

The first one being that the common currency and market are sufficient mechanisms to ensure economic convergence of EU Member States and that they will provide stable monetary union. It’s Germany that always opposed the creation of “economic governance” within Europe, the idea advocated by France. Berlin was wary of state control of business proposed by Paris, undermining the independence of the European Central Bank and inflation. Germany believed that controlling public spending and budgetary discipline, through Stability and Growth Pact, is a sufficient guarantee that the system works. In the course of 10 years, the monetary union stood on one leg of monetary policy, which brought Germany considerable profits, since it gave them the opportunity to sell their goods to the Euro area members, whose debts were soaring. But the collapse of the Euro area proved that such system is in the long run unsustainable.

Secondly, German model of full independence of the central bank, whose task is only to care for inflation targets, did not do well during the crisis. Only thanks to ECB’s interventions on the bond market was it possible to alleviate the situation and enable the endangered countries to catch their breath for some time. Germany came to accept these measures, gnashing their teeth.

The third illusion was the conviction that the German export champion would act as a locomotive, dragging along the whole European Union. Perhaps this is the most painful lesson from the crisis which Germany still resists to fully come to terms with. The extraordinary competitiveness of the German economy in a system of an incomplete, and defective, monetary union led to dramatic disequilibrium in the trade balances of EU Member States. Germany observed surpluses and southern states saw deficits. Those were some of the most vital reasons behind the crisis. Germany’s advantage, bearing in mind that economic indices surged precisely during the last ten years as a result of common currency, EU enlargement to the East and internal reforms, did not turn out to be the source of salvation for Europe. This challenged the idea that the interests of Germany and of European Union coincide.

Fourthly, claiming that the EU is not a transfer union and that each member state must take care of their own spending and debt proved to be nothing but a pretense. In fact, the political decision to introduce the Euro without the second economic leg achieved its goal declared back then. It has indeed irrevocably connected Member States with one another to such an extent that the trouble of countries like Germany or Spain, caused by a failing system structure, has created enormous risk for the whole community. Germany, in its own interest, had to engage in rescuing the countries on the verge of bankruptcy through multi-billion Euro funding provided for EFSF and ESM.

How to Leave the German Path

Today we can hear voices warning against the emergence of a “German Europe”. They are ignoring the very basic fact that the situation is just the opposite. The current Euro area crisis is precisely a dramatic crisis of the “German Europe” i.e. of this European structure which was shaped, to a considerable extent, by German ideas and under their influence. As a result of the rupture of those illusions and the direction of the logic of change in the European Union, addressing these changes is indispensable to combat the crisis. From the German viewpoint this contradicts the convictions long popular in Germany. Establishing new rescue funds, discussing Eurobonds, coordinating economic cooperation—and not only joint control over budget policies, or, finally, elements of transfer union—until recently these were synonymous with anathema for the European policy pursued by Germany. Today, most experts, including those in Germany, believe that these steps are simply necessary to stabilize the monetary union and ensure its sustainability.

The German problem with the dynamics of EU development can be best captured by social sciences as path dependence. This idea describes a situation when one has restricted leeway because of some previous decisions, taken in different, already obsolete circumstances. Germany has been trying to rescue the Euro for some years already, but using methods which used to guarantee success in the past. Hence, if we want to fix the crisis we should cut down on public spending, reform labor markets, increase competitiveness and apply wage moderation. By no means can we allow for inflation and the European Central Bank should rigidly stick to its mandate. German proposals resulting in, among other things, the fiscal compact, imply that we should do everything like we normally did except that now we need to do it better and more accurately. However, the problem is that the crisis is precisely the result of failing policies based on these assumptions and these have proved insufficient or wrong. In order to get EU out of the crisis, Germany would need to leave the beaten track, most of all with respect to the economic thinking and practice. Sebastian Dullien and Ulrike Guerot, European Council on Foreign Relations experts, have written recently about the “long shadow of ordoliberalism”, which supposedly provides an essential explanation of the German approach to crisis. This is not just about a narrowly defined national interest and fear of inflation, so claim the authors of the report, but also about a specific economic doctrine which has a dominant position within the mainstream of German political and economic elites.

Germany’s sticking to the path is understandable at first glance. After all, this economic strategy proved unprecedentedly successful in the postwar era and was perfectly compatible with the development of European integration: that is the establishment of a common market and the introduction of a common currency. Furthermore, it was precisely in the last decade that Germany implemented a series of reforms whose success was a signal for Berlin that they were right in keeping to this allegedly sole appropriate course. Germany enhanced their competitiveness owing to wage moderation. Salaries were not increased for the whole decade. Reforms instituted as part of “Agenda 2010” left labor markets more flexible and restricted eligibility for unemployment benefits. Also, they supported privatization and deregulation. As a result, the economy rebounded, observing spectacular outcomes in the last years. Is that not a sufficient reason for Germany to continue its course, hold on to their rules, and for other states to simply emulate the German strategy?

Such an assumption ignores the previously mentioned turning point: the economic philosophy behind the German model and the EU’s (or Euro area’s) interest cannot be reconciled any more. The common currency area cannot bear the long run disastrous imbalance between EU economies. Applying German recipes to the crisis-stricken southern states will not bring the expected result. And not just because Germany, with their powerful industry, well-qualified workforce and new technologies, are an exception in Europe, rather than a benchmark which other states could strive to. Germany implemented their reforms against an entirely different background. Agenda 2010 was introduced the moment the currency union still fared well and the bond interest rate was low and stable, allowing them to survive even the most difficult moments. The overall economic climate in the remaining states was also good; even though only later did it turn out that they in fact were living on credit. Hence, Germany was able to export commodities, pushing their economy forward. Investors did not panic for the slightest reason, allowing Germany to stretch their reforms in time. Today, it expects Spain and Portugal to conduct similar consolidations of their economies in a by far shorter time and in a state of crisis: a situation which absolutely does not compare with the one ten years ago.

The logic behind European integration in the era of crisis is, from the German viewpoint, inexorable. Berlin must abandon its current principles and take the path which German elites always considered to be inappropriate towards a genuine fiscal union, economic governance, mutualization of debts and delegating considerable amounts of sovereignty to the EU. This is a vision of a transfer union in which Germany would need to carry the weight of more responsibility, financially, for the fate of the whole community. “Germany, for its part, will have to opt for a fiscal union. Ultimately, that means guaranteeing the Euro area’s survival with Germany’s economic might and assets: unlimited acquisition of the crisis countries’ government bonds by the European Central Bank, Europeanization of national debts via Eurobonds, and growth programs to avoid a Euro area depression and boost recovery.” This according to Joschka Fischer in “Süddeutsche Zeitung“ this June.

Until now, German anti-crisis policy was defensive and geared towards the alleviation of negative impact rather than active steps to give a new, stable shape of the EU. Germany tried to save the most of “German Europe” at any price, which right before their eyes was falling into ruin. They delayed any decisions, like the bail-out of Greece, assistance for banking sector, pro-growth measures, if they did not fit their current manner of conduct. The strategy according to which one could hope for threading a needle of crisis and at the same time not abandoning German axioms, was risky from the very outset and exacerbated the crisis. But quitting the German path dependence, which not only Joschka Fischer but also a whole plethora of economists and politicians have been urging Angela Merkel to do, is more difficult and fraught with consequences than most of the previous milestones of European integration in which Germany participated including the introduction of the Euro. Even though the common currency was implemented on “German conditions”, in order to rescue it, we must abandon recipes enforced by Berlin. Thus, Germany’s agreement to a real fiscal union, in which it had to take on more responsibility for the rest of Europe, requires strong political leadership and convincing the society that “more Europe” in this case is in German interest as well.

Strong Economy, Fragmented Society

Excellent results from the German economy, and the fact that the economy has profited not only from the Euro, but also, ironically, from its crisis (lower interest rates of German bonds led to solid financial outcomes) are not the only reason why the necessity of fierce growth does not appeal to elites and normal citizens. In this respect, some changes were observable in the first half of 2012. It is true that following increased export to non-European states, mainly to China, in the first quarter of this year the economy developed better than expected. Still, signs could be observed that the growing crisis in the Euro area was slowly reaching Germany. In May, the lfo Institute for Economic Research published the results of studies which indicated a deterioration in investor and entrepreneur confidence. At the beginning of June, the DAX index dropped below the magical threshold of 6000 points, which was caused by a negative trend lingering for weeks. Also, news of a progressing loss of investor trust towards the Euro bothered Germany. All those events, along with a change in the political leadership in France exerted pressure on Berlin to revise its anti-crisis strategy. Three weeks before the June EU summit, the federal government developed the “growth pact” in which it suggested steps to bring back life to the European economy. Even though the proposed ideas were far from revolutionary—given that the only novel idea was the approval for a financial transaction tax— indicated that Merkel’s government recognized the need to modify its course.

There is a popular view in Europe which says that rich Germans should finally pay back their debt to Europe and decisively take on the burden of responsibility for saving the Euro because they are the largest beneficiary of the common currency. However, this is too simple to fit the complexity of reality. About half of German citizens believe that the common currency is actually not serving their best interest whereas 80% of them oppose communitization of European debts. A new book by Thilo Sarrazin entitled Europe Doesn’t Need the Euro is the best-selling position according to Der Spiegel. Such moods are observable in a country which, judging by columns and diagrams of economic analyses, flourishes and grows in strong times, are hard to comprehend. And the puzzle cannot be convincingly solved by indicating the growing national interest and negligence of the elites, who for years have avoided any genuine political debate on Europe. Rather, we should seek solutions in social and economic reality which does not really correspond to this picture of the “flourishing landscapes” which we can imagine judging by the volumes of exports and economic growth.

The benefits of German economic success in the last decade were very unevenly distributed within society. In economic boom times, financial inequalities soared in Germany as indicated by OECD data. This happened more rapidly than in all other industrialized states. “Average” citizens and workers barely felt the economic prosperity. Wage moderation was one of the main growth factors. German competitiveness on foreign markets to a large extent relied precisely on relatively low labor costs. Wages did not go up in Germany, despite increased economic productivity, for the whole decade and only in 2010 was there a slight increase. On the other hand, Agenda 2010 reforms, vital for economic development as low rates on tariff agreements, also brought about negative social consequences. A huge sector of low-paid employment was created, affecting today 4.6 million employees, which constitutes 20% of all those employed.

Indeed, reducing unemployment was beneficial for all the previously jobless. Still, the quality of most workplaces resulting from structural changes of labor market was by no means comparable to comfortable work conditions characteristic of so-called Rhine capitalism. Frequently, people are employed on “junk contracts” on a temporary basis without any social benefits. Moreover, changes to the labor market provoked by the reforms, globalization and economic transformations, painfully affect not only the poorest but, to a growing extent, also the middle class. The danger of social degradation caused by the loss of a job and reduced income is not unrealistic any more. Today falling out of the sector of wellpaid and permanent jobs with benefit packages has become far more probable than ten or fifteen years ago. Plus, there is a problem of exorbitant debts of huge number of municipalities forced to make drastic cuts because of the debt brake stipulated in the constitution. They have been closing down public utilities, swimming pools, culture and welfare centers. Additionally, parallel to the introduction of the Euro and improvement of the economic climate, one could observe accelerated erosion of the German social model. Hence, the argument that Germany profited from the Euro is hardly getting through to the public.

While Europe sees Germany as an economic superpower which dominated the whole continent, Germans themselves, despite the economic upturn, have been witnessing a demise of their welfare state and social advancement, the models which they grew accustomed to after the Second World War. Both outlooks are considerably wellfounded, but probably never before have they been so divergent. Europe wants Germany to spend more money on its internal market to stimulate demand for products from the countries currently struggling with an economic downturn. On the other hand, German citizens have been told for many years by their politicians that they need to save as much as possible because they can no longer count on the welfare state in case they have bad luck. At first glance you can see a paradox here that Germany has a strong economy and its citizens are increasingly divided and apprehensive about their future. Reasons for this are not irrational, even though from the viewpoints of Athens or Dublin, German fears might seem incomprehensible.

A Political Union?

The new German problem with Europe is consequently not about their aspirations to achieve hegemony or the rebirth of national egoism. Ivan Krastev, a Bulgarian intellectual, commenting recently on German politics said that “when beneficiaries of integration start perceiving themselves as its greatest victims, politicians should expect serious troubles to arise”. Pertinent as this remark might be, the problem is more complex. German political and economic elites are well-aware that the future of their country and its economy depends on whether the common currency is rescued or not. Its collapse would bring catastrophe to Berlin. However, in order to save the Euro, Germany needs to force itself to abandon the dogmas which so far have served so well their interests and come up with a narrative for Europe which will be able to convince society, which is so anxious about their future, that it is Europe that can guarantee the best safe haven. Both challenges require resignation from technocratic management in Europe and inciting a political dispute about its future. Also, a third aspect must be taken into consideration: recent rulings of the Federal Constitutional Court suggest that a further step towards European integration, in all probability, will entail revising the German constitution and this will only be possible with public support. More evidence that in Germany the time of alleged public consent for deeper integration is over.

It is quite plausible that Germany will have to choose a new path for confronting the crisis not having solved all these dilemmas. There is simply no more time for a huge debate over Europe. George Soros, at his speech in Berlin at the end of May, claimed that the future of Europe would be settled within the next three months. This might be like reading coffee grounds, but one thing is sure: all potential decisions regarding boosting growth in Europe, a banking union or any form of debt mutualization must be made right away in this period. Analogically to previous actions, including the rescue package for the Euro area, Germany in the end is making its way in the right direction, even if reluctantly. The direction which gives hope for sustainable solution to the problems plaguing the EU. Yet, even though their voice and initiative are of fundamental significance, the future shape and stability of the EU depends also on other partners, most of all France. It can’t be ruled out that Paris and not Berlin will need to have the final say.

Creating a true fiscal union which, thanks to the responsibility for debts shared among the members and close coordination of budgetary and economic policies, seems today to be the only logical solution, shall not mark the end of EU reforms. It will rather pose fundamental questions over the future of European democracy and the political dimension of integration. The crisis sharpened erosion of democracy in the EU, where, quoting Jürgen Habermas, “technocratic federalism” is currently in power, is taking the form of a few heads of states and governments giving instructions which democratically elected representatives have no influence on. European societies can elect new governments, but they can’t choose a different form of politics. This picture has been sharpened mainly in the face of austerity measures imposed by Brussels on southern states. Tightening economic integration in the form of a fiscal and banking union would only make things worse. Given that Germany lacks democratic legitimacy for decisions which concern common spending and guarantees for credits, taking these moves would doubtlessly be perceived as an infringement on the constitution. From Berlin’s viewpoint a genuine economic union needs to go hand in hand with a political union.

Not without reason, politicians like German Minister of Finance Wolfgang Schäuble, while sketching a vision of the future EU, point out the need to establish additional parliamentary bodies such as a Euro area parliament, they would guarantee a democratic nature for the whole system. But Germany requires that such a parliament should, to a larger extent, take into account the demographic factor. In other words, it wants more influence as the biggest EU Member State. The question is if Paris, traditionally skeptical towards political integration and inclined towards an intergovernmental cooperation model, is ready for such a move. A transfer union instead of a political union where Germany enjoys more influence might prove to be a decisive issue for the EU’s future… to be settled in the months to come.