For the European Union to work, its strong members must show solidarity with its weak members. Germany need to support the creation of a mechanism to realize this imperative
Who runs the European Union? On the eve of Germany’s general election, that is a very timely question. One standard reply is, “The EU’s member states” – all 28 of them. Another is, “The European Commission.” But Paul Lever, a former British ambassador to Germany, offers a more pointed answer: Berlin Rules is the title of his new book, in which he writes, “Modern Germany has shown that politics can achieve what used to require war.”
Germany is the EU’s most populous state and its economic powerhouse, accounting for over 20% of the bloc’s GDP. Why Germany has been so economically successful appears elusive. But three unique features of its so-called Rhineland model stand out.
First, Germany has preserved its manufacturing capacity much better than other advanced economies have. Manufacturing still accounts for 23% of the German economy, compared to 12% in the United States and 10% in the United Kingdom. And manufacturing employs 19% of the German workforce, as opposed to 10% in the U.S. and 9% in the U.K.
Germany’s success in retaining its industrial base contradicts the practice of outsourcing manufacturing to locations with lower labor costs. True to the legacy of Friedrich List, the father of German economics, who wrote in 1841, “the power of producing wealth is therefore infinitely more important than wealth itself”, Germany has retained its manufacturing edge through a relentless commitment to process innovation. Its export-led growth has given it the benefit of increasing returns to scale.
The second feature of the German model is its “social market economy”, best rejected in its unique system of industrial “co-determination.” Alone among the major advanced economies, Germany practices “stakeholder capitalism.” All companies are required by law to have works councils. The resistance to o – shoring is therefore much stronger than elsewhere, as is a willingness to restrain wage costs.
Finally, there is Germany’s firm commitment to price stability. Germany needed no lessons from Milton Friedman on the evils of inflation. They were already hard-wired into its most famous post-war institution, the Bundesbank.
Institutionally, the EU has become Germany writ large. The EU’s gospel of “subsidiarity” reflects the division of powers between Germany’s federal government and states (Länder). Germany ensures that Germans fill the leading positions in EU bodies. The EU rules through its institutions, but the German government rules those institutions.Yettalkof “hegemony”, or even “leadership”, is taboo – a reticence that stems from Germans’ determination not to remind people of their country’s dark past. But denying leadership while exercising it means that no discussion of Germany’s responsibilities is possible. And this inflicts costs – especially economic costs – on other EU member states.
The EU, especially the 19-member eurozone, thus functions as a vast home base for Germany. And that base is strong. Germany exports to the EU 30% more than it imports from it, and runs one of the world’s largest current-account surpluses.
This is a benign rather than a brutal hegemony. But at its heart lies a massive contradiction. National accounts must balance. A surplus in one part of Europe means a de cit in another. The eurozone was established without a fiscal transfer mechanism to succor members of the family who get into trouble; the European Central Bank is prohibited from acting as lender of last resort to the banking system; and the Commission’s proposal for Eurobonds – collectively guaranteed national bond issues – has foundered on Germany’s objection that it would bear most of the liability.
Germany has been willing to provide emergency finance to debt-strapped eurozone members like Greece on the condition that they “put their houses in order” – cut social spending, sell off state assets, and take other steps to make themselves more competitive. The Germans see no reason to take measures to reduce their own super-competitiveness.
What can be done to achieve a more symmetric adjustment between Europe’s creditors and debtors? Barring a fiscal transfer mechanism, John Maynard Keynes’ 1941 plan for an International Clearing Union might be adapted for the eurozone. Member countries’ central banks would hold their residual euro balances in accounts with a European Clearing Bank. Pressure would be simultaneously placed on creditor and debtor countries to balance their accounts, by charging rising interest rates on persistent imbalances.
An EU clearing union would be a less visible intrusion on German national interests than a fiscal transfer union would be. The essential point, though, is that for the eurozone to work, the strong must be prepared to show solidarity with the weak. Without some mechanism to realize that, the EU will limp from crisis to crisis – probably shedding members along the way.