Merkel is target of calls for drastic measures by Germany to save euro zone

Calls for Europe to take drastic steps to quell its economic crisis became earsplitting this week, but the pleas had an intended audience of one: German Chancellor Angela Merkel.

Seven decades after a war sparked by Germany brought Europe to ruin, the country’s neighbors see it as their only hope. Germany alone has the deep pockets to help struggling countries escape a worsening economic crisis that threatens to tear the region apart.

Although Merkel has said that she wants to take unprecedented steps to hand over long-guarded sovereign rights of budget-making and taxation to the European Union, her timeline is nowhere near fast enough to get ahead of a crisis that wiped 3.4 percent off the value of Germany’s DAX stock index on Friday alone.

The head of the European Central Bank, the leaders of France, Italy, Spain and Britain, and even President Obama have all called in recent days for steps that would dwarf everything tried so far. Most of them directed their appeals straight at Germany. The E.U. official in charge of the economy, Olli Rehn, was the latest to warn that the 17-country euro zone was at risk of falling apart.

“The way things are going and under the current structures, the euro area has a significant risk of breaking up,” Rehn said in a speech in Helsinki, Bloomberg News reported.

But Merkel has remained mum on committing to bigger steps. Meanwhile, European Central Bank President Mario Draghi — whose inflation-hawk approach is far more sympathetic to Germany than to its more-profligate neighbors — issued a plea this week for European leaders to take quick action, calling the euro zone’s current setup “unsustainable.”

Merkel said there are “no taboos” in discussing what Europe could do. But many Germany taxpayers feel that some proposals amount to writing a blank check to countries whose fiscal behavior has been less disciplined than Germany’s.

“I don’t think there is any movement to be expected from Berlin very soon,” said Clemens Fuest, an Oxford economist who advises the German finance ministry.

And with a glum U.S. jobs report adding to worries that the U.S. economic recovery is stalling, the cold winds blowing from Europe could now, more than ever, put a chill on Obama’s reelection hopes, which will hinge in large part on economic performance. Obama held a late-night teleconference last week with Merkel, French President Francois Hollande and Italian Prime Minister Mario Monti. He also dispatched a top Treasury official on a whirlwind tour of European capitals to convey American concern about the euro-zone situation.

Economic power

In Germany, the crisis still feels like thunder in a faraway land. In May, German unemployment hit a two-decade low of 6.7 percent, according to figures released this week, even though overall euro-zone unemployment stayed at an all-time high of 11 percent in April.

Last week, fearful investors for the first time paid Germany to hold on to their money, with the country issuing negative-interest-rate two-year bonds. Meanwhile, Spain’s borrowing costs are hitting the same unsustainable levels that forced Greece, Ireland and Portugal to seek bailouts.

Even the euro’s two-year low, caused by doubts about the currency’s future, has boosted Germany’s export-driven economy by making its products cheaper abroad. Germany’s good fortune means that it is in a better position to help struggling compatriots.

But it also means that German leaders are under little domestic pressure to move quickly. Merkel spoke this week of taking “five to 10 years” to overhaul the euro zone’s financial governance — not the five to 10 days that some European officials say are all they would have in the case of a major wipeout in Spain.

As every day passes without action, the situation grows more difficult for countries such as Greece, Spain and Italy. But few in Germany expect any major discussion about the future until after June 17, when Greece and France vote in legislative elections. Merkel wants to keep pressure on Greeks to vote for parties that favor the bailout, analysts say. And Hollande will be freer to make compromises once he no longer has to worry about drawing voters to the Socialists.

Merkel has ruled out Hollande’s push for a quick change that would allow euro-zone countries to issue jointly backed debt, called euro bonds. The idea would have the entire euro zone back up the borrowing of individual countries, in effect using Germany’s mighty credit rating to lower borrowing costs. The measure would be deeply unpopular in Germany without assurances that other countries will rein in borrowing and spending, and the powerful German Constitutional Court has indicated that it would be illegal.

Concessions possible

Some analysts say Germany is willing to give some ground on other measures, and they point to precedent to back up that assertion. When Europe’s crisis started — with Greece admitting in late 2009 that its deficit was wildly higher than previously indicated — Germany held out for months against a bailout. Then Germany caved — and said it was a one-time situation. Same for Ireland. Same for Portugal. Same for a permanent bailout fund.

The options now, most of which involve bolstering Europe’s banking system, could fall into the same category, with German leaders consenting once they have demonstrated to their electorate that they did all they could to fight it, analysts say.

The question is whether that point will come too late to prevent a breakup of the euro zone.

“The German leadership is very pragmatic, very committed to European integration, just facing a very difficult domestic environment,” said Nicolas Veron, an economist at the Bruegel think tank in Brussels. “At this point, the integrity of the euro zone cannot be protected without some radical solutions.”

Analysts say Germany might be able to give ground on a proposal to allow Europe’s permanent bailout fund, scheduled to go online July 1, to give aid directly to struggling banks to boost their capital. Right now, it can only lend to governments. The change would probably deplete the fund’s money more quickly, but it would help isolate banking problems from government finance problems, reducing the likelihood of bank runs and spiraling government borrowing costs.

“Banking regulation, or a banking union, or a direct bank recapitalization from the European Stability Mechanism” — the permanent bailout fund — “these are things the German government could live with eventually,” said Sebastian Dullien, a senior fellow at the European Council on Foreign Relations in Berlin.

On Friday, Germany agreed to give Spain more time to cut its budget deficit, but that step is unlikely to fundamentally change its economic prospects. On Monday, Merkel will meet with European Commission President Jose Manuel Barroso, who has pushed her for a timetable to full economic union. Other direct pleas will surely continue, as pressure mounts and Germany remains its neighbors’ main hope of salvation.

Italian leader Monti warned Germany this week that its reluctance to move risked a backlash against austerity and that its hard-headed stability culture “risks being undermined because of lack of promptness in setting up the necessary instruments to limit the contagion.”

Michael Birnbaum is The Post’s Moscow bureau chief. He previously served as the Berlin correspondent and an education reporter.
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