German-French Plan Falls Flat as Investors Balk
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The Fiscal Times
August 17, 2011

German Chancellor Angela Merkel and French President Nicolas Sarkozy strode confidently to the podium yesterday, ready to announce a plan that would finally put an end to the European debt crisis. For a year and a half, the leaders of Europe’s two strongest economies had taken baby steps to staunch the crisis, caused by unsustainable debt throughout the continent. But their actions fell short of expectations and did little to placate investors.

Yesterday’s announcement was thought to be different. Both leaders touted their new initiative –  a "true European economic government," said Sarkozy, with representatives from every euro zone country – as a bold and decisive plan to end the crisis once and for all.  This group would meet twice a year in an attempt to harmonize European financial regulations.

“There has to be a stronger coordination of financial and economic policy,” Merkel said, just hours after the news that German economic growth has ground to a halt. “We will regain the lost confidence… That is why we go into a phase with a new quality of cooperation within the euro zone.”

Merkel and Sarkozy also called for taxes on financial transactions across the euro zone, and encouraged European Union members to enact balanced budget constitutional requirements. They also refused to increase the size of the $638 billion EU bailout fund.

Investors were unimpressed by the idea of additional meetings as the solution to the crisis and markets immediately traded lower. Experts contacted by The Fiscal Times said Wall Street quickly recognized that the European economic government would have no power whatsoever, and that the Merkel/Sarkozy plan would have little impact on the solvency of the rest of the continent.

“The markets were disappointed because they wanted to see immediate action, to see Merkel and Sarkozy put their weight behind the rest of Europe,” said Matthias Matthijs, assistant professor at the American University School of International Studies. “These are all loose proposals. Economic governance would mean meddling of one government in another’s economic affairs … It’s another way of kicking the can down the road.”

Dire Political Consequences – and Merkel at Risk
Matthijs said that the most viable way for Europe to emerge from the crisis would be the so-called euro bond. This bond would replace the bonds of all EU members with an instrument backed by the entirety of the union. This would relieve pressure on countries like Greece and Italy, but would raise pressure on Germany, the EU’s strongest economy and the country that would essentially be responsible for the bond.

“The Germans will have to commit to some common bond,” Matthijs said. “It would hurt their credit rating but it’s the only way you can start fixing the debt problem. If a euro bond were to be issued, the markets would rally around this.”

For political reasons, however, Merkel has consistently rejected this idea. The German public has grown weary of playing financial savior to the rest of the European Union. Her popularity has plummeted. Germany’s slow growth has only added to German reluctance to continue in this role.

This public anger is now manifesting itself in German politics. Members of Merkel’s own coalition – her Christian Democrat Union party, plus the conservative Free Democratic Party (FDP) – are now refusing to even consider the idea of a European bond.

“Eurobonds are a sweet poison that leads to more debt, rather than less. Should the government endorse a common European bond and with it take the final step towards a long-term debt union, the FDP should seriously ask whether the coalition has any future,” FDP parliamentarian Oliver Luksic told a German newspaper.
 
Merkel’s reelection to a third term as chancellor seemed inevitable two years ago. Now it looks as if she will be the next in a long line of European politicians to fall victim to the crisis.

An editor-at-large for The Fiscal Times, David Francis has reported from all over the world on issues that range from defense to border security to transatlantic relations.