Soros: The Germans must show “leadership” or the euro is toast

By Ian Fraser

Published: Qfinance

Date: June 7th, 2012

George Soros caused quite a stir when, in a remarkable 4,400 word speech at the Festival of Economics at Trento, north-eastern Italy on Saturday June 2, he outlined the unpalatable choice that now faces Europe.

With a Greek exit looming and the Germans resolutely ignoring Spain’s pleas for direct bank access to European bailout vehicles, Soros said the continent has three months to decide. Either it must either rapidly proceed to full political union (which would, of course, require humiliating u-turns in both Berlin and Frankfurt) or face the implosion of the single currency by September 2. The latter outcome would, of course, be horribly messy, with profound and long-lasting global economic/geopolitical fallout.

One could paraphrase Soros’s message to Europe’s leaders as: “Quit your dithering and endless sequence of Band-Aid solutions and get real if you believe in keeping this European show on the road.”

The speech went viral on the internet last weekend, triggering responses from, among others, Business Insider‘s Joe Wiesenthal, Reuters’s Felix Salmon, and the New York Times‘s Paul Krugman.

Soros, 81, a currency-speculator-turned-philanthropist-turned-economics-reformer, is often remembered in the UK as “the man who broke the Bank of England.” So there’s a suspicion that he may just be talking his book and hoping to profit handsomely from also breaking the European Central Bank (I personally think this is far-fetched).

In his speech Soros, who saw through the idiocy of neoclassical economics as early as the 1980s, said the thinking behindEuropean Monetary Union was flawed from the outset, given it sought to create a monetary union without a political union, and that this was self-evident long before the Maastricht Treaty was ratified in 1992. He added:

“But the euro also had some other defects of which the architects were unaware and which are not fully understood even today. In retrospect it is now clear that the main source of trouble is that the member states of the euro have surrendered to the European Central Bank their rights to create fiat money. They did not realize what that entails—and neither did the European authorities.”

Soros said it’s unfair and hypocritical of “core” eurozone member states such as Germany and France to place all the “blame and burden” of adjusting the eurozone’s imbalances on weaker, peripheral countries.

“The “center” is responsible for designing a flawed system, enacting flawed treaties, pursuing flawed policies and always doing too little too late.”

Given that the core countries were responsible for setting up the whole flawed concept, what right have they to blame the peripheral nations when everything goes pear-shaped? If they hadn’t built the euro on such shaky foundations, and if Basel Committee of Banking Supervision had not been insane enough to give a zero risk-weighting to sovereign debt, then the other nations would never have been in the position to borrow as much as they did.

Soros argued that Europe’s banks urgently need a pan-European deposit scheme, in order to prevent capital flight, and that they must also be given direct access to the European Stability Mechanism, the eurozone’s permanent rescue fund. He added that joint financial supervision and regulation is essential, as are measures to reduce the borrowing costs of heavily indebted European nations.

“There are various ways to provide it (a fall in the funding costs of heavily indebted countries), but they all need the active support of the Bundesbank and the German government.”

Soros said that the German authorities would need to make “an extraordinary effort” to gain public support between now and early September if these measures are to be implemented, adding: “We need to do whatever we can to convince Germany to show leadership and preserve the European Union as the fantastic object that it used to be.”

Commenting on Soros’s brilliant speech, the Nobel-prize winning economist Paul Krugman wrote:

[Soros’s] point about the euro bubble is particularly well taken. I’d put it this way: it so happened that the euro came into existence at a time when the German economy was in the doldrums. Then the euro made investors believe that southern Europe was safe, causing a huge fall in interest rates there.This in turn led to vast inflows of capital; the flip side of these inflows was large trade deficits, and large counterpart German surpluses, which was just what the Germans needed. Everyone was happy! For a few years. And then the bubble burst, leading to the crisis today.

Needless to say, this story bears little resemblance to the morality play of profligacy and its consequences that has dominated European discussion until just about now. If there were any villains, they were the architects of the euro, who waved away warnings about the system’s flaws. But never mind the villains: the question is what to do now. And time is running out fast.

In an earlier interview with the Independent’s Ben Chu, published on May 30, Krugman said he believes a Greek exit (or “Grexit”) is now inevitable, saying this will be triggered by the ECB calling a halt to emergency lending. “Nobody wants to do that but at some point the numbers will make that unavoidable.” He said the run on Greek banks will inevitably continue, since the “new drachma account worth 50% or 30% of what the original one was.”

Writing in the New York TimesSimon Tilford, of the Centre for European Reform, said Greece’s exit from the euro may may be the catalyst that forces Germany into recognizing that without “major institutional reforms,” the euro is toast. Tilford said the reforms must include “debt mutualization” (the assumption of joint responsibility for a proportion of each member-state’s public debt); pan-European bank protection and the reinvention of the ECB. Tilford said that, far from reducing the need for fundamental institutional reforms, a Greek departure would increase the need for them. Warren Buffett, the chairman of Berkshire Hathaway chipped in on June 5. He said:

“They can’t have a common currency, but not common fiscal policy or culture. It can’t be half slave and half free. European leaders need to resolve some of the union’s weaknesses.”

By the way, I am extremely wary of the creation of a United States of Europe. I struggle to see how such an entity could be created without a massive increase in the democratic deficit that already blights Europe and has worsened since the crisis (and without the UK and others following Greece out the EU emergency exit door). But, given the alternative seems to be a form of economic Armageddon, I guess it’s the lesser of two evils.

Further reading on the uncertain future of the eurozone:

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