The Germans and the Euro zone crisis


There is no doubt that the Euro zone is still in the deep cold water of an economic crisis. Many renowned economists and financial analysts predict the eventual breakup of the entire Euro zone area in the medium-term scenario.

Currently, Spain, Europe’s fifth-largest economy, has had doubts cast on the strength of its banking sector due the crash in the country’s property market. Its banks have lent billions of Euros they might never get back and this has made investors very nervous. The worst scenario would however be if Greece was forced to quit the Euro zone. This possibility, previously deemed impossible and unthinkable by the main euro zone leaders, now seems plausible.
Tragedy is a Greek word, and so is catharsis. And yet, the odds are good that only the former will come to characterize what will happen in Greece from this point on. Before long, the February 2012 bailout agreement negotiated by the Euro zone finance ministers will come to be seen as the high-water mark of trying to impose reason and rationality onto what ultimately is a hopeless situation.
Turning things around would take a miracle, but not because Greece’s debt levels remain staggeringly high, even after significant restructuring. The real challenge lies in the country’s political and administrative culture. The country suffers from decades of bipartisan mismanagement, corruption, fraud, profound ineffectiveness and collusion, ineptitude and mere wishful thinking. Hard though it may be to imagine, in some respects, the Greeks are worse off than the East Europeans were in 1990 when they finally shed the Communist yoke.
As German voters were preparing for federal elections, no major German politician argued for a more charitable approach to the European economic crisis. The general premise is twofold. First, Germany tightened its belt in the labor market reforms of a decade ago. Second, Germany lives within its means and other nations need to do likewise. With different points of emphasis, this view is broadly shared by both major parties.
German insistence on Greek austerity has now pushed Greece to the brink of a social catastrophe. But the Germans might take a moment to reflect on their own history. The Hitler government in the 1930s ran up the largest debt-to-GDP ratio (about 670%) in the history of the world. But in the aftermath of World War II, the Allies, remembering the disastrous consequences of German reparations after the First World War, did not insist on their pound of flesh. Rather, the entire Nazi public debt was written off.
The pre-existing unpaid debt from the Weimar period was written down to about one-tenth of its original cost. In addition, claims on old debt were strictly segregated from German reconstruction funds. The new German Federal Republic was given very easy repayment terms. It finally paid off the last bit only in 2010.
According to its historians, Germany had surely lived well beyond its means during the Nazi era, plundering the rest of Europe in order to do so. The allies would have been well within their rights to demand that Germany pay for its sins by reducing its consumption. German historians stated that the then U.S. Treasury Secretary, Henry Morgenthau, was promoting just such a plan, to “pastoralize” Germany and cut its living standards.
But back then, wiser heads prevailed. The Americans, not only agreed to write off old debts, but gave the Germans billions of dollars in aid under the Marshall Plan. This farsighted policy reflected a careful study of history. The reality is that the Allies in 1948 were concerned with Soviet expansionism and needed a recovered Germany as an ally. The result was that, in 1952, the German Federal Republic enjoyed a public debt ratio of under 15%. Most remarkably, that was far less than that of any of the Allies that had gone deeply into debt to defeat the Nazis.
As the annals of post Second World War history of Germany well documented, while the famous market reforms of Ludwig Erhard and Konrad Adenauer receive the credit for the German economic miracle in the usual histories, the largely-forgotten Allied write-off of German debt played a major role, too. It is also worth remembering that the German Federal Republic itself, after 1989, did not condemn the former East Germany to austerity as a remedy for its fictitious economy.
Instead, Chancellor Helmut Kohl allowed the “Ossies” to exchange their nearly worthless ostmarks for deutschmarks at the inflated rate of one to one. He also poured the equivalent of more than a trillion euros into the reconstruction of the Eastern economy. Noted European economic analysts and pundits argued that if the Allies of 1948, and the government of Germany itself in 1989, had practiced what the Germans are now preaching and imposing on Greece, Germany today would be a much poorer country.
Here, one can recall Edmund Burke’s sage 1775 oration addressed to King George III on the perversity of the British government’s harsh policy towards its restive North American colonies. Burke averred: “The question with me is not whether you have a right to render your people miserable, but whether it is not in your interest to make them happy.” Germany gains little and stands to lose much by condemning the Greeks to misery as punishment for past profligacy. What then to do?
It is true that Greece had been living on borrowed prosperity, and that it has a structural trade deficit. Greece simply does not have enough attractively-priced exports to finance what it buys from the rest of the world. Normally, a country with chronic trade deficits that has lost the confidence of its foreign lenders would devalue, disguising the decline in living standards and at the same time making its exports more competitive.
But Greece’s membership in the Euro zone precludes that strategy. It is also true that Greek public administration and tax collection are a mess. But none of this makes severe austerity a sensible policy, since austerity only weakens the Greek economy further, causing human suffering without restoring budget balance. Economic analysts as well as politicians adamantly warned that the Germans are playing with fire. Greece is a nation that had a military dictatorship as recently as the 1974.
So how to emulate the spirit of the Allies’ macroeconomic mercy towards the Germans after 1948 and West Germany’s farsighted generosity toward their Ossie cousins after 1989? Economists and politicians alike are seriously posing an important and timely question; why not couple Greek budget and tax reform with a large infusion of funds for public works and economic modernization in the spirit of the Marshall Plan? They argue that young Greeks, instead of looking at ruinous unemployment, could gain productive jobs. The entire Greek economy would gain a big macroeconomic boost and a path to modernization.
Most importantly, the EU and its German leaders would gain the moral authority to work with Greeks on politically awkward reforms. It is one thing to grudgingly tolerate technocrats who are bleeding others dry in order to satisfy bankers, but quite another to work with development specialists who come to Greece bearing gifts. Call it the “Merkel Plan” so that Chancellor Angela Merkel might be remembered, not as the jackbooted German who destroyed Greece, but as the wise leader who tempered austerity with sensible mercy.