Europe waits for Germany to come to the rescue

From The TimesOnline
May 18, 2009

Anatole Kaletsky: Economic view

Last Friday the European Commission published what were arguably the most catastrophic economic statistics produced by any official institution in the capitalist world since 1945. These figures showed that Germany has suffered the steepest economic collapse ever recorded in a major industrialised country; and that several of the countries in Central Europe and on the periphery of the eurozone are now in a state of economic and financial meltdown comparable with Argentina, Indonesia and Russia in the 1990s or with Iceland last year.
The 3.8 per cent decline in Germany's first-quarter GDP reported on Friday translates into an annualised rate of 16 per cent. That was almost three times the rate of decline in the United States and Britain and steeper than most estimates of the economic collapse during the worst years of the Great Depression. And this was not just some temporary fluke or statistical exaggeration.
The German economy has now been falling at a rapid and accelerating rate for four consecutive quarters, resulting in a year-on-year decline of 6.9 per cent. The comparable figures for the US and Britain are 2.6 per cent and 4.2 per cent. More important than comparisons with other countries is the contrast between the present disaster and the recessions that Germany has suffered in the past. Before the present 6.9 per cent slump, the worst year-on-year decline that Germany had recorded was 2.7 per cent in 1975. What these statistics confirmed is that the credit crunch has been a far greater disaster for Germany and most of continental Europe than for the US and Britain. In fact, it is Europe that faces a genuinely unprecedented economic crisis, whereas the recessions in America and Britain are broadly similar in scale to the ones of the past three decades (see charts).
That continental Europe — and Germany, in particular — has suffered far worse from the credit crunch than the US or Britain should come as no surprise. I have described repeatedly the three interacting elements now hitting Europe in a “perfect storm”.
The first element is Germany's dependence on exports, especially of capital goods, cars and other consumer durables. The vaunted strength of Germany's export industries has turned out to be its Achilles' heel, at a time of contracting global demand. To make matters worse, the mercantilist assumption in Germany that exports are somehow more virtuous than housebuilding or domestic consumption has left it entirely dependent on cycles of consumption and housing in other countries, while making German politicians unwilling to stimulate their own domestic demand.
The second element of the perfect storm has been the reckless lending to Central Europe and the Baltic States, especially by banks based in Austria, Sweden, Greece and Italy, which in turn have been large borrowers from German investors and banks. Countries such as Latvia, Estonia, Hungary and Romania have been borrowing between 10 and 20per cent of their national incomes each year — largely in euros and Swiss francs, rather than their local currencies. As a result, their businesses and homeowners will suffer a tsunami of bankruptcies if their currencies ever fall. Eastern European governments are, therefore, desperate to avoid devaluations. But the actions they take to “protect” their currencies — for example, cutting public sector wages — only deepen their recessions and magnify the mortgage defaults.
The third component of the economic hurricane is the euro itself. In its first decade of existence, the euro contributed to continental Europe's growth by allowing Spain, Greece, Portugal, Ireland and Denmark to run enormous current account deficits and enjoy housing and mortgage booms far more extreme than anything seen in Britain or the US. These booms provided markets for Germany's production of cars and other consumer goods. In the past few months, however, the single currency has changed from a stabilising factor into a new source of vulnerability for members of the eurozone. The reason is that eurozone governments are no longer risk-free “sovereign credits”, like the governments of the US or Britain, or smaller countries, such as Switzerland, Australia or New Zealand. A government that borrows in its own currency will never default because, in extremis, it can always instruct its central bank to print money to pay its debts. But governments in the eurozone cannot do this. They are in the same position as US state governments or as Argentina, Indonesia and Russia when they borrowed in dollars.
The default risks are particularly serious for governments that are deeply embroiled in the banking crisis. In Ireland, Greece and Spain, governments have been forced to guarantee banks whose liabilities are greater than the entire state budget. In Austria, Greece and Italy, financial risks have been magnified by bank exposure to Central Europe, which in the case of Austria is equivalent to 70 per cent of GDP.
Now consider how the three elements of this perfect storm have begun to converge. The plunge in the German economy has devastated the manufacturing industries and wage remittances in Central Europe, with output in several countries falling at annualised rates of up to 40per cent, never before witnessed in any capitalist economy.
The economic collapse in Central Europe almost surely implies a tidal wave of loan defaults. These, in turn, will wreak havoc in the European banking system and could raise the possibility of sovereign defaults in Greece, Austria, Ireland and other eurozone countries. Finally, efforts by governments to maintain their credit ratings and to control deficits by slashing wages and imposing other deflationary measures will push down house prices and the ability of local borrowers to service their debts, a process that is already alarmingly visible in Ireland. The ultimate result is that the European economy will be caught in a 1930s-style deflationary spiral of deteriorating credit, deflationary government policies, falling wages and even further declines in credit.
The most plausible way for Europe to escape from this vicious circle will be for Germany to abandon its age-old philosophy of fiscal rigour, to embark on a large-scale fiscal stimulus and to guarantee the debts of all its partners in the eurozone. The present assumption in the financial markets is that, if conditions in Europe continue to deteriorate, the German Government will do exactly this.
To offer unlimited pan-European bailouts and guarantees, regardless of potential costs to German taxpayers, might, indeed, be a rational policy for Germany to pursue in its own interests, given the scale of the economic and financial threat. But then the rational policy of the US Government last September was to prevent the collapse of Lehman, regardless of the potential cost to taxpayers. But then governments do not always act rationally — especially in a financial crisis that has to be resolved over a weekend. That, surely, is a lesson we should all have learnt from the past 12 months.

Copyright 2009 Times Newspapers Ltd.

Israel's Response Is Disproportionate

By Jonathan Mark

I condemn Israel's disproportionate attack on Hamas because, so far, it has only lasted four days and I would like to see a proportionate response that terrifies Hamas for seven years, the years that have filled Sderot and neighboring towns with nightmares, death, amputations and trauma coming from rockets and mortars fired from Gaza.

Perhaps a proportionate response would have Gaza's leaders fearful of being killed every day for the next two years, as Gilad Shalit has been terrified of torture and death every day for the last two years in his solitary Gaza dungeon.

A proportionate response would have Hamas mothers and fathers as fearful for their children's lives as Shalit's mother and father have been fearful for Gilad's life.

A proportionate response would have Gaza's children crying for their mommies and daddies, the way at a Hamas pageant earlier in December a Palestinian actor dressed as Shalit got down on his knees, mock-begging in Hebrew for his Ima and Abba while the Gaza crowds laughed.

A proportionate response would so intimidate Hamas that they will grovel and, as a "gesture," send cocoa and jam into Sderot, the way Israel has groveled in response to rockets from Hamas, sending cocoa and jam into Gaza. Imagine Churchill sending cocoa and jam into Berlin as a humanitarian gesture after - during - the bombing of London.

A proportionate response would be one that will convince Hamas there is no military solution, no solution but surrender. They can then call surrender a "peace process," if they like, just as the mostly unanswered attacks on Jews have convinced some Jews that there is no military solution but surrender to any and all demands. They suggest a euthanasia by the euphemism of "peace process," that Israel become what some are already planning to call "Canaan," a non-Jewish state of all its citizens.

A proportionate response will convince Palestinians that if they insist that the starting point to peace negotiations is that no Jew be allowed to live on the West Bank, the proportionate response will be that Israel's starting point in negotiations is that no Arab be allowed to live in Tel Aviv. Horrible to contemplate? Fine, let there be a proportionate negotiation.

A proportionate response to Hamas, one might gather from the European scolds, would be as if the United States, after Pearl Harbor, would bomb just a few Japanese fishing boats and call it a day, believing the war would have ended with that.

A proportionate response will begin to remind Jews that there is no peace process like victory, just as Israel's decade of disproportionate restraint and self-doubt has convinced young Palestinians that their victory is inevitable, like Aryan youth in 1933 singing "Tomorrow Belongs To Me."

Let it be said to Israelis and Jews everywhere, in the words of Churchill: "You have enemies? Good. It means you've stood up for something." But remember: A war (and Hamas has repeatedly said this is war) is never won if you are disproportionately kind to someone who wants to destroy you and, failing in that, demands with indignation that you not destroy him.

When meeting that enemy, be proportionate.