Angela, Meet Heinrich
The Merkel administration is repeating some of the same mistakes that were made by Germany during the Great Depression
Not since the early 1930s has a democratic government made such grave economic miscalculations as today’s Merkel administration. In the pit of the Great Depression German Chancellor Heinrich Brüning imposed severe austerity measures, the most damaging of which were an array of new taxes.
Berlin feared that an unbalanced budget, even as the economy was catastrophically contracting, might unleash a bout of hyperinflation. Merkel worries that if the European Central Bank goes whole hog trying to stem the euro-destroying crisis by massively buying Spanish and Italian bonds, a destructive inflation will result.
Berlin’s fear of inflation is as wrong now as it was in 1930–32. European financial institutions are being mortally threatened: Their liquidity is being drained. U.S. money market funds, for instance, have withdrawn about $1 trillion. At the same time, regulators are telling banks to shore up their capital, which means distressed asset sales and the calling in of loans. Europe is headed for another recession. More dangerously, the implosion of its banks will trigger another global financial explosion à la 2008–09, or something even worse.
Emergency action is needed. Europe is top-heavily dependent on its banks. In the U.S. commercial and industrial loans to nonfinancial American corporations are $1.1 trillion. In Europe that number is $6.4 trillion. The bonded debt of U.S. companies is $4.8 trillion; in Europe, $1.2 trillion.
American banks are one of many buyers of U.S. government bonds. In contrast, European banks are the major purchasers.
What’s needed to stem the panic is a massive infusion of temporary liquidity from the European Central Bank, which would not be inflationary but something more basic: life-saving. It’s to prevent the banking equivalent of cardiac arrest. When the crisis eases the ECB could unwind its emergency purchases—unlike our irresponsible Fed after 2008–09.
Germany’s reluctance to act decisively is becoming perverse. After all, Italy and Spain have new governments, which, unlike their predecessors, are ready to take tough measures. Berlin should be actively encouraging Rome and Madrid to slash government spending, while cutting tax rates and liberalising labour regulations that kill job creation.
Will Angela Merkel be a modern-day Brüning? Her place in history depends upon the answer—as does the well- being of the world.
(This story appears in the 20 January, 2012 issue of Forbes India. To visit our Archives, click here.)
