Germany caught with selfish double standards in euro area policy

European Parliament. 8th parliamentary term, Brussels. Mario Draghi, President of the European Central Bank walks to take his position for the ‘Monetary Dialogue’ with the Committee on Economic and Monetary Affairs (ECON). Copyright: © European Union 2017.

Over the past three years the European Central Bank, guided by its President Mario Draghi, has been folowing a super relaxed monetary policy. It has been aiming at reviving uncertain economic growth and dying inflation, by handing out to banks, and through them to the economy, hundreds of billions of euro and at the same time zeroing interest rates.

All along this period Germany strongly opposed this unconventional policy, because the country is by far the largest net saver of Eurozone. Berlin has been complaining that the German bank deposits yield nothing. However, this ECB policy greatly accommodated the German banking system, which suffers by undercapitalization, non performing shipping loans and imprudent investment and risky expansionist practice.

Having it both ways

The German political decision makers, while being quite happy with this help to the banking system of their country, kept loudly criticizing Draghi for zeroing interest rates on the bank deposits of their voters. They wanted it both ways, on the one hand help the German banks with the extra generous handouts of money from ECB, and at the same time pay good interest rates to bank deposits of their voters or at least been seen to care for them. It’s exactly the same as in the case of Greece. Berlin considers the presence of the International Monetary Fund in the Athens creditors’ group as ‘cine qua non’, but the German government doesn’t comply with the Fund’s demand for a generous alleviation of the Greek debt.

Wolfgang Schäuble, the German minister for Finance went even further and said that he “wants the Greeks to suffer as he does”. Schäuble has also been attacking Draghi for his relaxed monetary policy and his entourage has gone as far as taking legal action against the President of ECB. The litigations ended up in the European Court of Justice, which supported the right of ECB to independently conduct the appropriate monetary policy, within its mandate. In short, Germany is following an egocentric attitude when it comes to the economic policies of Eurozone.

Bundesbank haunts ECB

The latest episode in the above sequence of events is a statement by the German Bundesbank (the central bank of Germany) President and a key member of ECB’s Governing Council Jens Weidmann. During the last G7 meeting of ministers of Finance in the southern Italian city of Bari, he said that the European Central Bank’s extraordinary monetary policy is “still appropriate in principle”. This was his verbatim statement as reported by Reuters, but the news agency continued and reported Weidman as adding “but it is legitimate to discuss the timing of an exit as inflation recovers”. Let’s dig a bit into that.

The discussion about the exit from ECB’s ultra-loose monetary policy has gained momentum during the past few months. The reason is that the headline inflation and growth have gained a rather secure position, in the positive part of the chart all over Eurozone. The idea behind ECB’s accommodative attitude was and still is to bring inflation from around zero that prevails for years, to close to 2%. This is its core mandate of the central bank. Now, however, that inflation has reached levels around 1.5%, there is room for rethinking the super lose monetary policy. Nevertheless, the change of ECB’s strategy from accommodative to restricted is not at all a simple affair.

The banks still need free refinancing

The entire financial universe of Europe and most precisely the banking industry have modeled their strategies along the lines of plenty and zero cost money from ECB. It’s paramount to notice at this point that the major banking groups of Germany like the Deutsche Bank, the Commerzbank and some special character regional banks are dangerously under-capitalized. On top of that, they need to take care of their risky, if not toxic, exposure to all kinds of derivatives and non performing loans, as in the shipping sector. This means that they still badly need the zero interest rate refinancing from ECB, in order to bring their accounts to a more manageable state. To do that, they need more time and more zero cost money from ECB.

For a good reason then the German decision makers wanted to keep supporting the efforts of their banking industry to recover. Weidman’s green light to the three years of ECB’s super relaxed policy is an infallible proof of it. However, the Berlin elite didn’t want to be seen as unreservedly endorsing Draghi’s policy, which apart from inflation, supports growth in the south of Eurozone (Greece, Italy, Spain and Portugal). Exactly the same is true for the approval of the zero interest rates policy.

Obviously, the center-right Christian Democratic Union party of Chancellor Angela Merkel and Schäuble can’t afford to be seen as not caring for their own, in order to enhance their chances to win the next September general election. That’s why Weidman, the errand boy of Schäuble, has been meticulously playing with his stance in the Governing Council of ECB. Not to forget that Germany controls a good part of votes in this key body, which is made of the representatives of the euro area 19 member states and the six members of the Executive Board.

Having it both ways

Weidman’s latest statement in Italy is then an undeviating continuation of Berlin’s long time stance in ECB’s Governing Council. It means that the extra-loose monetary policy of ECB will continue unhindered and next month’s Governing Council’s meeting will not change the ‘forward guidance’ directions to the markets, aka banks. To be noted, at this point, the US central bank, the famous Fed, now follows a restrictive monetary policy, exactly the opposite than ECB. That’s why the euro is continuously losing grounds in its parity with the American dollar. This side of the whole affair offers a rather unexpected new European weapon in the just started controversy with Trump’s America. The cheap euro is a strong argument vis-à-vis the US.

In conclusion, the German stance towards the ECB has now one more good reason not to change significantly. The German tactics of supporting the banks but ostentatiously opposing this policy, are to continue.