by Adam Tooze
In mid-November the governments of two eurozone members were taken over by men without democratic credentials whose main qualification was that they were undeniably market conforming.50 Critics pounced on the web of connections that tied key eurozone decision makers to Goldman Sachs and its bond market dealings in Europe.51 It was surely more than coincidence that Monti, Draghi and Otmar Issing, Merkel’s favorite economic adviser, had all worked for Goldman. But to describe this simply as a defeat of democracy at the hands of global markets would be misleading, to say the least. There have been many governments felled by market pressure. But Geithner was right. The driving force in the eurozone in the fall of 2011 was political, not economic. Berlusconi had to go because otherwise there would be no agreement from the “German public,” at least as represented by Merkel’s government, to a bigger European firewall. The gutting of Greek and Italian democracy in 2011 was the result of a toxic combination of massive financial integration with Berlin’s dogged insistence on intergovernmentalism. The lack of overarching structures with which to compensate for the asymmetric effects of the crisis enforced conformity to Berlin’s vision of financial probity, one state at a time. Around the chancellery in Berlin, in the wake of the changes in Greece and Italy they were not bemoaning the oppressive force of markets. Senior officials could be heard boasting: “We do regime change better than the Americans.”52
But the twisted logic of the crisis was far from fully played out. Installing “Prussians” at the head of two of the most dangerously indebted eurozone countries no doubt made Merkel and Schäuble more comfortable. But as far as the markets were concerned, the character of the national governments in Italy and Greece was a secondary concern. What the markets and the rest of the G20 were waiting for was the next step: a decisive move toward a higher level of European integration. What was needed was a decision on the EFSF, and that depended not on Greece or Italy but on overcoming Germany’s objections to a larger stabilization fund.
No eurozone member could risk a direct showdown with Berlin, and Merkel knew it. So it came as a nasty surprise for the German delegation at Cannes when at 9:30 in the evening on November 4 Sarkozy called the heads of government back for a conference on the Italian question, and it was not the French president but President Obama who was in the chair. As one member of the German delegation commented to the Financial Times: “It was strange. . . . It was . . . a signal that Europe was not able to do that; it was a sign of weakness.”53 It would have been closer to the truth to say that it was a sign of Germany’s strength and stubbornness. Sarkozy ceded the chairmanship to Obama in the hope that America’s weight and influence would be enough to overcome Germany’s political and legal objections to the solution the eurozone desperately needed. As Obama put it: “Our preference in the US is that the ECB should act a bit like the Federal Reserve.” In other words, the ECB should calm the markets by buying bonds. If that was vetoed by the Bundesbank because it blurred the line between fiscal and monetary policy, what Europe needed was a truly massive government- backed bond-buying fund with in excess of 1 trillion euros in effective purchasing power, ideally in excess of 1.5 trillion. Given the limitations of the existing EFSF, the Americans and the French proposed an improvisation that would involve topping up the fund with SDRs issued by the IMF and then leveraging the enlarged pot. It was a neat technical fix, but the subterfuge was too obvious. The Bundesbank would not agree to a plan that transferred huge influence to the EFSF by way of the IMF, entities over which it had no direct influence.54 Even Obama’s pressure was not enough. Merkel offered that if Italy agreed to be disciplined by the IMF, she could go back to the Bundestag to get authorization to approve an increase in the eurozone rescue fund. But she could not agree to the leveraged SDR fix. Even if all nineteen other members of the G20 backed by every financial authority in the world insisted that this was the best way forward, if the Bundesbank was against it, Merkel would rather let markets rip.
At the time, the G20 did no more than record the negative result of the meeting. A discreet veil was drawn over the details of the discussions. No one doubted where the obstacle lay. It was only several years later that investigative reporting established how close Merkel had come to a physical collapse under the pressure exerted on her by Obama and Sarkozy. On the verge of tears she blurted out, “That is not fair. I cannot decide in lieu of the Bundesbank: Ich will mich nicht selbst umbringen [I do not want to kill myself]. I am not going to take such a big risk without getting anything from Italy.”55 Behind closed doors there was no more talk of globalization, democracy and markets, the abstractions that Merkel had bandied about with the pope. What defined the parameters of an acceptable solution to the eurozone crisis was the constitution of the Federal Republic, the autonomy of its central bank and the political interests of the German center-right. If the Americans found this frustrating, Merkel expostulated, they had no one to blame but themselves. It was they who had created the embryo of the Bundesbank in 1948 as the founding institution of West Germany. At Cannes in November 2011, it was as if the entire transatlantic settlement since World War II were being put in play.
Merkel was not playacting. She knew how narrow her coalition’s majority was. If she had returned to Berlin with the Franco-American proposal, she might well have faced a major mutiny on the Right and the need for early elections. Given the opinion polls at the time, that was not an attractive option for Merkel. With support for her FDP coalition partners collapsing, a German election at the end of 2011 might well have yielded a majority for Red-Green.56 That was not the outcome to the eurozone crisis that Sarkozy wanted. Given the pressure that France was coming under, Paris was in no mood to take risks. The French and Americans backed off.
V
The showdown in Cannes in November 2011 was an indication of how serious the stresses on Europe had become. But it left the eurozone stuck on the German roadblock and divided over its future direction. At the ECB, which the hard-line Bundesbankers had abandoned in protest, the German seat was taken by Jörg Asmussen, a market-orientated but pragmatic civil servant with social democratic leanings, very much in the Rubin-Summers-Orszag mode, one of the architects of German financial globalization under Germany’s Red-Green coalition in the early 2000s. Having witnessed the workings of the ECB and the G20 up close, he commented on the cruel dilemma he faced: “Either you do what is right for Europe and they crucify you in Germany or you are the hero of the FAZ [the conservative Frankfurter Allgemeine Zeitung newspaper] and you ruin Europe.”57
The tension could be felt even inside such a major financial actor as Deutsche Bank. Among the financial blogging community a PowerPoint deck was circulating that showed Deutsche’s Anglophone and London-based research department worrying that the eurozone had reached a dangerous tipping point, from which only urgent action by the ECB could save it. Without such intervention, Europe might face a doom loop of public and private insolvency and illiquidity.58 As in Greece, bad sovereign debts would pull down the banks. Or as in Ireland, failed banks would pull down the state’s credit. Only the ECB could break this loop. It was the “missing ingredient” in all European crisis management efforts to date. Meanwhile, from Deutsche Bank’s head office in Frankfurt, Der Spiegel quoted CEO Josef Ackermann toeing the Bundesbank line.59 “If we start developing the ECB into a bank that performs completely different tasks beyond maintaining price stability,” Deutsche’s boss opined, “we will lose people’s confidence.” He was at odds with his own analysts and those of every other major bank in the Anglosphere, but in Germany it was Ackermann’s line that was the mainstream. The chief economist of insurance giant Allianz advised “strongly against unlimited purchases of government bonds.” If a country was unable to sort out its finances, he said, “we should let the markets speak.” The chief economist of Commerzbank, Jörg Krämer, warned that if “the virus of mistrust spreads to the ECB, it will have serious consequences.” ECB bond purchases permanently transferred wealth from Northern
to Southern Europe, “without democratic legitimization and without the debt problems being solved.” Meanwhile, even Germany was no longer immune to the virus of insecurity. On November 23, 2011, the Bund suffered a bond auction that was described by market watchers as a “complete and utter disaster,” with only 3.644 billion out of 6 billion euros’ worth of German ten-year bonds finding buyers.60
Some direction was clearly needed in the eurozone. And it could only come from Berlin. The point was made with historic force by Poland’s foreign minister, Radek Sikorski, an Oxford-educated former journalist. Speaking on November 28, 2011, choosing as his platform the German Council on Foreign Relations in Berlin, Sikorski demanded “that Germany—read Merkel—step up and lead. If she did so, Poland would be at her side.”61 In his view the greatest threat to the security and prosperity of Poland today was “not terrorism, it’s not the Taliban, and it’s certainly not German tanks. It’s not even Russian missiles,” which Moscow had just threatened to deploy along the EU’s eastern border. In Sikorski’s view the most ominous scenario was a collapse of the eurozone, which would no doubt take the weaker states on the eurozone’s periphery with it. And Sikorski went on: “I demand of Germany that, for your own sake and for ours, you help it survive and prosper. You know full well that nobody else can do it. I will probably be the first Polish foreign minister in history to say so, but here it is: I fear German power less than I am beginning to fear German inactivity. You have become Europe’s indispensable nation. You may not fail to lead.”
A month on from Cannes, in the first week of December 2011, two visions of Europe’s future were circulating in Brussels.62 What Merkel and Sarkozy subscribed to was an updated version of the agenda first agreed at Deauville in 2010: fiscal discipline written into domestic law and international agreements. For France it offered the safety of association with Germany. Merkel, for her part, needed Sarkozy to counter allegations of German unilateralism. But in light of the widening and escalation of the crisis in 2011 it could not but appear a minimal and essentially negative agenda. In their joint letter to the European Council in early December, Merkel and Sarkozy made no commitments on bank recapitalization and no mention of the simmering crisis in the sovereign bond market. On the most optimistic reading, the Merkel-Sarkozy fiscal compact was the essential political precondition for Germany to take further steps. But in Brussels the push was now on to actually take those steps. On December 7 Van Rompuy, the president of the European Council, published his “interim report.” Though the European Council was supposed to be the guardian of the minimal intergovernmental vision of the Lisbon Treaty, under the pressure of the crisis Van Rompuy was now calling for bold moves. He proposed a major increase in the financial firepower of the EFSF/ESM. It should be available, in extreme cases, to recapitalize Europe’s ailing banks, thus breaking the doom loop. And to back it up, in a “longer term perspective,” Van Rompuy called for the EU to face the need for debt mutualization. Limited by strict criteria and all necessary European oversight, there should be some pooling of European credit, shielding the weaker members behind the creditworthiness of the stronger borrowers, thus eliminating the element of market panic that was making the situation of Italy untenable. Some version of these steps was what the entire G20 was calling for. It was what progressive voices in Europe were advocating. Indeed, the idea of eurobonds was attracting the cautious backing of the German opposition, the SPD. But for Merkel, and in particular for her coalition partners, the FDP, they were anathema. And to add further to German indignation, whereas Sarkozy and Merkel’s fiscal compact was to be instituted by solemn amendment of EU treaties, Van Rompuy proposed that his more far-reaching measures could be put through by so-called secondary legislation and limited agreement among the eurozone members. For Berlin it was clear. Brussels was up to its usual “tricks.”
At this critical juncture another force came into play to compound the impasse. Aside from Poland, the other major EU member not in the eurozone was the UK. London had watched the eurozone crisis unfold with a mixture of Schadenfreude and frustration.63 On every possible occasion Prime Minister Cameron lectured the eurozone members on the need for deeper integration, while at the same time exempting London from any commitments. For the good of Europe, Britain and the wider world economy, London demanded that the eurozone move toward full economic union. Meanwhile, for Cameron, struggling to contain an upsurge of Euroscepticism in the Tory party, Europe’s crisis was an opportunity to haggle. By exploiting the divisions within the eurozone, Cameron thought he could obtain explicit opt-outs for the City of London, especially from demands for a tax on financial transactions. But any such concessions were violently opposed by Sarkozy, and Merkel needed France far more than she needed the UK. When he realized that he was isolated, Cameron announced that he would not only veto a collective deal among the twenty-seven EU members.64 He would exercise his right to block any steps toward deeper integration by the eurozone members within the framework of the EU.
For Britain’s relationship to the EU it was a parting of the ways. It was clear that at least as far as Britain’s conservatives were concerned, a decision would soon be necessary on whether they could continue as cooperative members of the union. For the eurozone what emerged from the clashes of early December 2011 was the lowest common denominator of both options on offer. Germany got its fiscal compact, although it was cast not in the form of the treaty change that Merkel had wanted but in the minimal legal form of an intergovernmental agreement outside the framework of the Lisbon Treaty.65 The terms of the fiscal compact were draconian. In the future, Europe’s budgets were to be balanced or in surplus. By constitutional amendment or its equivalent, deficits were to be restricted to 0.5 percent of GDP. The European Court of Justice was to oversee the transposition of these rules at a national level. States that had a deficit in excess of 3 percent of GDP would be subject to automatic sanctions unless a qualified majority of states were opposed. Countries with debt levels in excess of 60 percent of GDP were required to embark on debt reduction. It was the German debt brake vision transposed to the European level. On the broader issue of completing the eurozone’s architecture, Merkel conceded nothing. There would be no shared liability for European borrowing, no eurobonds, no bank recapitalization and no increase in the size of the EFSF/ESM. The only concession from Berlin was that as of July 2012 the improvised EFSF would be replaced by a permanent European Stability Mechanism with the power to intervene in secondary bond markets and the adequacy of the EU’s firewall would be reassessed as soon as March 2012. Berlin also agreed to lay the ghosts of Deauville to rest by limiting any future PSI to standards set by the IMF. Despite the intensity of the Italian crisis and the drama at Cannes, it was still Germany that set the pace.
With intergovernmentalism resulting in such minimal and essentially negative solutions, would the one powerful federal agency of the eurozone, the ECB, rise to the challenge? All eyes were on Mario Draghi, who had taken over as president of the ECB on November 1, 2011. At the Treasury in Rome in the 1990s, he had been a crucial member of the team that carried Italy into the euro. Since 2006 he had been in the spotlight as governor of the Bank of Italy. Before that he had served as a vice chairman at Goldman Sachs, following a stint at the World Bank. He had earned his Ph.D. in economics in the cradle of American macroeconomics, MIT, in the 1970s at the same time as Ben Bernanke and Lucas Papademos, who was now serving as Greek prime minister. At MIT, Mervyn King of the Bank of England and Bernanke had been office mates. Between them the central banking fraternity at least had an immediate answer to the problems facing Europe’s financial system. The banks were under enormous pressure from the withdrawal of wholesale funding, and the shortage of dollar funding was particularly acute. It was horribly reminiscent of 2008. To relieve the funding pressures caused by the withdrawal of the American money market funds, the Bank of France, among others, had resorted to emergency measures to make dollars available to French banks.66 Now, on November 3
0, all the major central banks of the world—the Fed, the ECB, the Bank of England, the Bank of Japan, the Swiss National Bank and the Bank of Canada—reopened the swap lines put in place in 2008 and reduced the interest rate paid. The global reach of the deal was “theatre”; Japanese and Canadian banks were not under any pressure. It was, once more, the eurozone that needed the dollars.67
In the summer of 2012 Mario Draghi would emerge as the “savior of the euro.” As such he would be demonized as an Italian inflationist by the German right wing and celebrated by the Anglophone world as a competent central banker. But what this narrative ignores is that Draghi’s ability to change the conversation in the summer of 2012 had one essential precondition: backing from Berlin. Commonly the strength of Draghi’s relationship with Merkel is put down to Draghi’s finesses as a politician.68 But this passes over the fact that though German hard-liners opposed all activism by Europe’s central bank, for Merkel the ECB had been a useful tool from the start. She had done it quietly, but on several occasions she had effectively distanced herself from the Bundesbank, recognizing that ECB intervention was the necessary complement to the decade-long process of transferring Germany’s vision of “reform” to the rest of Europe. Despite the howls of protest from the German right wing, Merkel knew she could count on Europe’s central bankers. She had nothing to fear from a fiscal and monetary conservative like Trichet. Draghi was suitable as a partner precisely because he showed every sign of agreeing with Germany’s vision of how to revise the European welfare state.69 Indeed, that was as much part of Draghi’s identity as an American-trained economist and Goldman Sachs alumnus, as was his expansive view of central bank policy.