Monday, June 25, 2012

Conditional integration

Even if the German government might be less dogmatic than some think, it will stick to the principle of conditional integration at this week’s crisis summit.

Ahead of this week’s European Summit, there does not seem to be a lack of ideas of how to solve the Eurozone crisis. Euro-bonds, a Eurozone banking union and a growth pact could, at least in the eyes of some politicians, market participants and commentators bring an end to the crisis. However, all these proposals still meet strict German refusal. What can we expect from the German government this week?

In a long interview, German finance minister Schäuble gave some insights in his and the government’s long-term view for the Eurozone. Germany wants to morph the monetary union into a political union. According to Schäuble, national constitutions are reaching their limits and it could be rather earlier than later that Germans would have to vote on a new constitution. Schäuble wants to shift political power from the national level to the European level, developing the European Commission into a European government. The president of the Commission should be elected directly. Europe would have to find its own, specific model of a political union. According to Schäuble, neither the federal system in the US nor in Germany could be a guideline for Europe. It is obvious that the German government is slowly on preparing the Germans for a political union. No fully-fledged political union but a Europe (or a Eurozone) based on a more accentuated subsidiarity principle.

Visionary for the long run but what about the short run? Ahead of this week’s summit, the main area of conflict between government leaders is exactly the different time horizons. While the German government wants to subordinate all next steps to the long term view for the Eurozone, most other Eurozone countries look more focussed on possible short-term fixes. A face-saving compromise for all countries is obviously the growth compact. Probably the most tangible result of this week’s summit. On Friday, government leaders from Germany, France, Italy and Spain agreed on a package to stimulate growth, amounting to €130bn (c.1% of EU GDP). This package needs to be embraced by all countries this week. As already decided earlier, funding of this package will mainly come from the EIB, unused European funds and private-public sector investment tools. Deficit spending will not be part of the package. To the contrary, in the more general growth compact, the new pro-growth initiative that should also be agreed this week, the German handwriting is more dominant than the French. Most emphasis seems to be on structural reforms not on more spending.

Up to now, the German government has been opposing proposals as direct EFSF/ESM loans to banks, Euro bonds, Euro t-bills or a banking union. Any kind of collectivisation seems to be like a red rag to a bull to the German government. It does not look as if the German government would change this position easily. This does not mean that the government is not committed and determined to save the Eurozone. It is. The German government simply sticks to its principle of strict conditionality.

In our view, all Eurozone countries will eventually have to poor some water into the wine but they will have to give up their strict ideas of sequencing. For Germany, possible first concessions could be a single European/Eurozone bank supervision and a Eurozone redemption fund. Most other countries would have to embrace the idea of more political integration and a loss of national sovereignty. As a result of this process towards a typical European compromise, this week’s summit should at least outline the basic principles of a more integrated Eurozone. Combined with a growth compact, the €130bn growth initiative and maybe even some short-term liquidity band-aid, this could be sufficient to at least convince the ECB to take action again.

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