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Ms. Merkel Builds Her Dream House

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The normally placid waters of European politics have been roiled by the ongoing monetary crisis. The tides threatening the structurally-flawed mechanisms designed to protect the EU's tidy precincts from a wave of defaults have crested ever higher while flustered government leaders, Brussels commissioners, European Central Bank authorities, and even the IMF have exhausted themselves sticking fingers in the dykes. Greece has been the most vulnerable point in the Euro-zone construction. For months now it has looked as if impending bankruptcy could topple exposed banks and undercut the financial foundations of one country after another -- putting in peril the entire Euro-zone project. That dire outcome has been postponed by a flurry of expedient actions which have bought some time while putting off the day of reckoning. Their orchestrator and driving force has been Chancellor Angela Merkel of Germany.

A day of reckoning there will be -- for three reasons. First, Europe as a whole is falling into a recession produced by the introduction of drastic austerity programs across the board. Those imposed on Greece -- and the other financially strapped economies of Ireland, Portugal, Spain and Italy -- are forcing them all into an ever deeper fiscal hole. That raises the odds on their ability to pay off their creditors and gaining balance of payments equilibrium.

Second, the underlying economic doctrines animating the current strategy are revivals of long discredited ideas whose pedigree dates back to the 1920s and 1930s. Quotes from the public remarks of successive directors of the European Central Bank -- Claude Trichet & Mario Draghi, from Ms Merkel and her brothers in Hayek elsewhere, from the non-elected prefects appointed to run Greece and Italy in the name of the newfound financial dogma -- Lucas Papdemos & Mario Monti -- all match almost word for word the utterances of Herbert Hoover and the officials of his era who nearly buried capitalism in the rubble of the Great Depression. This is not coincidence nor simple fashion among those steeped in the heady brew of market fundamentalism (although there is an element of intellectual fad at work). Indeed, the situation would be less dangerous were it the case that the shift from Keynes back to Ricardo was like the alternation in the width of men's ties. Then, at least, we could just hold on until tastes in economic doctrines reversed themselves. Instead, there is a strong synergistic logic among powerful financial interests, ascendant elements of the economic profession who have rediscovered the square wheel, and politicians who have abandoned the Social/Christian Democracy model for trendy private sector based models of American inspiration. These forces have converged to generate an implicit consensus now entrenched in public institutions at every level.

The result is formula diagnoses, formula prescriptions and stubborn avoidance of drawing lessons from contradictory evidence. That is the normal behavior of dogmatists deeply invested in the fixed collective mindset. That means relegating Greeks, Irish, Portuguese, et. al. to a condition of debt servitude for the foreseeable future. Severest penalties will be imposed on the poor and those of modest means, on the old, on the sick, on all whose well-being depends on the network of social programs which, all across the continent, has made Europe the most enlightened and humane society the world has ever known. Workers in the public sector naturally are targeted as drags on an economy that must be 'reformed' to make it more 'efficient' and 'productive' -- read, 'business friendly.' Hence, labor unions too have to be reined in so that workers can be rendered as pliable and disposable as their American counterparts.

The third reason for a pessimistic reading of longer term consequences is that the strategy which has been imposed on the so-called miscreants now has been reified across the EU in a formal Fiscal Compact (née Fiscal Stability Treaty), which has been signed by all participants in the Euro-zone except the Czech Republic, plus Sweden and Denmark. Its stipulations are strict and unbending. They come into force on January 1, 2013 upon ratification by only twelve signatory states. The main provisions dictate that member governments must abide by rules requiring them to maintain balanced budgets. Parties are obliged to introduce a national legal requirement to have national budgets that are in balance or in surplus. At Merkel's insistence, the European Court of Justice is empowered to fine a country up to 0.1 % of GDP if it has not done this a year after ratification.

The implementation of the programme, and the yearly budgetary plans consistent with it, will be monitored by the Commission and the Council.

In accordance with this draconian logic, no allowance is made for varying macro-economic conditions. The Compact is hallowed by its authors as the codification of gospel truth -- a sort of Nicene Creed. In other words, the painfully acquired wisdom that governments should run budget surpluses when the economy is close to full production and deficits when in recession has been cast overboard. A similar logic is imposed on monetary policy through the European Central Bank that is committed to a tight money policy as governed by a dedication to fighting inflation -- actual, imagined, or non-existent -- at the expense of stimulating growth. This hard line has been driven single-mindedly by Berlin -- the spiritual homeland of inflation-fixated monetary doctrine. Willing allies have been found at the Commission and the Central Bank. Current ECB President Mario Draghi is a long-time member of the world's ruling monetary elite. In Rome he had been governor of Italy's central bank and in that capacity, also on the Governing Council of the ECB. Earlier, he was a board member of several banks and corporations.

Draghi has made one critical departure from the German line: his policy of selective Quantitative Easing whereby unlimited funds at near zero interest rates have been made available to European banks with the only collateral provided being the dubious sovereign debt of the Greek, Italian and Spanish governments, which they have accumulated. That is to say, the ECB has taken on its books toxic debt totaling more than a trillion Euros in the optimistic expectation that they can be redeemed at close to face value once those country's finances are righted. These are designed above all to rescue the banks that overindulged in years of loose lending. It is hoped that, thereby, they will be in a position to roll over a significant portion of outstanding sovereign debt and, in order to further ease the financial burden on the debtor countries, will accept a haircut of 30% or so on some portion of those debt instruments. All this is very similar to what the Federal Reserve has done since 2008. The ultimate resolution is equally obscure. There is no way to make a confident estimate of the actual value of the toxic assets in question or to avoid a situation in which the banks pay back the ECB from one pocket while the other is filled by new infusions of money from same.

The implications of this fragile pseudo-solution are profound. Above all, the whole set of actions taken amount to a repeal of large sections of the social contract that has brought social peace, prosperity and a deep sense of solidarity. The practical effects on individual and collective welfare will continue to register indefinitely -- thanks to the deflationary policies that have been institutionalized. Europe in effect has been locked into a fiscal chastity belt made in Germany according to German specifications. Moreover, the key has been deep-sixed -- just to make sure -- and all the locksmiths in the land purged. This enforced chastity had (almost) everyone celebrating this signal triumph of virtue. Then it began to dawn on some more-or-less enlightened souls that the ingenious arrangement made no provision for mid-term economic growth in the austerity ravaged countries. The new old-time religion of austerity as being the cure-all couldn't be entirely counted on. So a few of the faithful, led by Mario Monti, began to entertain the dangerously heterodox notion that specific steps might need to be taken to promote growth. But how to do so when locked in a chastity belt?

The dilemma has generated another bout of meetings and a couple of working groups (i.e. entropic committees unbound by time; task forces -- the next step up the ladder -- are tantamount to burial details). So far the musings have produced nothing more than dreams of an economic immaculate conception. Even in the unlikely event of a second Intervention dedicated to salvaging flat earth economics, how might it be possible to deliver the growth? Logic points to either another miracle -- of deliverance -- or some sort of divinely-inspired Caesarean section.

A second consequence is the enshrining of a modern day Concert of Europe wherein the defenders of the status quo -- its recent vintage no bar to passionate commitment. Indeed, it has taken on the character of a restoration of the ancient regime -- philosophical and ethical. The good and great have organized themselves to monitor the conduct of all Euro-zone members on the alert for signs of backsliding or fresh deviations from the orthodox. Their instruments of punishment and deterrence are the Fiscal Stability Pact and the chaste monetary practices of the European central bank. Moral instruction by the righteous is part of the package. Stern warnings and fatwas will provide periodic reinforcement.

The first enforcement mission was taken in France. There, the Socialist party candidate for President, Francois Hollande, stated his intention to seek modification of the Fiscal Stability Compact before proposing it for ratification. The reaction was swift in coming. Ms Merkel, Mr. Monti, and Mr. Draghi -- joined forcefully and with typical abrasiveness by David Cameron, who had not signed the Compact himself, let it be known that, against custom, they would not meet with Hollande while affirming their full backing for Mr. Sarkozy. Hollande was branded a kafir who represented a clear and present danger to the principles and interests that the Concert has vowed to defend. This bland Robespierre of a Social Democrat had to be stopped from infecting the New European Order with the germ of sedition. This shot across the bow was a warning to French voters to act responsibly -- or else. The sword that hung over France's head was the 'financial markets,' which could be sparked into action by the barest of words from Brussels, Frankfurt and London. Chancellor Merkel already had gone so far as to agree to campaign by Mr. Sarkozy's side throughout France. His later decision to cancel the invitation has irritated the Chancellor. In this bleak environment, expediency required that the path be left open to deal with Mr. Hollande once he was in the Elysee.

The tone of moral superiority that pervades the words of German officials and their counterparts elsewhere in Northern Europe becomes pronounced in pointed remarks about the lax habits of self-indulgent Mediterraneans. It is not justified by the facts. Greece, Spain, Portugal and Italy (and Ireland) all had lower social expenditure relative to GDP than Germany. Spain, for example, was running budget surpluses until 2008. Its debt-to-GDP ratio is only slightly higher than Germany's. (Ireland too kept its budget in surplus.) Between 1999 and 2007, Spain and Portugal on average had substantially lower budget deficits than did Germany. Even Italy's debt to GDP ratio for the period was no greater than that of Great Britain. (The latter has been spared the crisis thanks to its being outside the Euro-zone and, therefore, able both to control its own money supply and to allow exchange rate fluctuations.) Greece is the one country that legitimately can be judged as handling its finances irresponsibly. Perhaps its most egregious action was to cook the books so as to obscure the full budget deficit. This was done under the conservative government of Prime Minister Kostas Karamanlis who preceded George Papandreou in office. The private financial firm that devised and promoted the scheme? Goldman Sachs. Goldman then proceeded to short Greek debt. Again, Greece is the exception that disproves the blanket condemnation of the southern European countries.

This new economic order constitutes a counter-revolution against the epochal transformations of the post-war era. Almost every feature of the Social Compact forged then is either being rejected or called into question: social equity, containing disparities in wealth distribution, ensconcing government as the legitimate and necessary guardian of the public good, giving everyone a piece of the action as well as a piece of the pie, valuing compromise and conciliation at the EU level. It is neither coincidental nor odd that Angela Merkel should personify this reversal. Born, raised and educated in East Germany, she missed out entirely on the crucial 45-year period during which that enlightened Europe was forged. For her, it all happened 'over there'; it is not understood in her bones. It is not ingrained in her thinking and perceptions. It has lost its saliency. What was second nature for her predecessors now is something that can be picked apart in the name of New Thinking.

The third consequence is the compromising of democracy itself. As already mentioned, Mario Monti was installed Viceroy of Italy by external parties last November. The legal technicalities were finessed by having President Giorgio Napolitano appoint him a member of the Italian Senate. His authority derives from them, not from the Italian people except through their passive acceptance of their new rulers. He draws on experts from the ECB and the Commission to guide the reconstruction of the Italian economy -- in the manner of American advisers embedded in the governments of Iraq and Afghanistan. Monti himself, a professional economist, was EU Commissioner for Competition. Among other subsequent activities, he has been an international advisor to Goldman Sachs and a member of the Senior European Advisors Council at Moody's.

In Greece, the process has gone further. When former Prime Minister George Papandreou of the PASOK (the country's Socialist Party) declared that he would hold a plebiscite on the question of whether to accept the onerous terms of the pending accord with Greece's creditors, he was immediately shot down. He was forced to resign under threat of freezing all credit assistance. In November, the powers that be enthroned in his place Lucas Papademos, head of the conservative New Democracy Party and former Vice Chairman of the European Central Bank, as head of a coalition government that gave the finance portfolio to Deputy Prime Minister Socialist Evangelos Venizelos of PASOK. Together, they faithfully have done the bidding of their financial masters whatever the feelings of Greek citizens. The two main parties' coalition in support of austerity has been a feature of the crisis. Earlier in 2011 they joined in obeying an EU order that, as a condition for receiving from the EU, they would have to sign a pledge not to call into question the terms of the accord at any time in the future in any political circumstances. The possibility that an election might bring to power new political formations which reject the undertakings of their predecessors receives scant attention in the creditors' belief, likely correct, that they had sown up the support of whomever really counted in Greek politics.

External experts deployed in Athens have put the country into de facto receivership. Greece and Italy are no longer de facto sovereign countries.