In the 1990s, selling the Germans on the euro was hard. Even if they vaguely liked the idea of Europe’s “ever closer union,” they loved their D-Mark even more. That’s because they trusted Germany’s arch-conservative central bank. As Jacques Delors, a Frenchman and former president of the European Commission, once put it: “Not all Germans believe in God, but they all believe in the Bundesbank.”
This pre-history casts a long shadow over Christine Lagarde, also French, as she prepares to take over in November from Mario Draghi as president of the European Central Bank. Her problem is that the Germans, along with some allies, philosophically oppose central tenets of the monetary stimulus that Draghi has pushed, and that Lagarde may have to push further.
The schism inside the ECB has existed for a long time. But it was laid bare last month, when seven of the 25 members of its Governing Council opposed the interest rate cut and resumption of bond buying that Draghi announced. Surprising nobody, Jens Weidmann, president of the Bundesbank, was once again leading the resistance.
More shocking, his compatriot Sabine Lautenschlaeger, swiftly and demonstratively resigned from the ECB’s Executive Board. She’s the third German this decade to quit the bank’s leadership in protest against lax monetary policy. Last week a group of former central bankers followed up with an open letter attacking the ECB: three of the six signatories were German.
Germany is not just any member state. It is the ECB’s largest shareholder, with about 18 per cent of its capital, or 26 per cent when counting only the equity of the 19 euro countries. To reassure the Germans, the ECB was modelled on the Bundesbank. It’s no coincidence that the two institutions’ Frankfurt headquarters are 14 minutes apart by taxi.
But during the eight “Italian” years under Draghi, many Germans have lost trust in the ECB. The country's tabloids have depicted him as anything from a mafia don to “Count Draghila,” ready to suck German savers dry. The subtext is that the ECB makes policy for “the south” of Europe, not for Germany or the euro area as a whole.
These grievances resonate with ordinary Germans. Unlike Anglo-American savers who tend to own real estate or stocks, Germans keep their nest eggs in basic savings accounts or life-insurance policies that pay out in proportion to bond yields. As long as the ECB keeps rates around zero, these nest eggs shrink, net of inflation. This sends pundits into hysterics about the ECB “expropriating” virtuously thrifty Germans. Some, including former Finance Minister Wolfgang Schaeuble, blame low rates for the rise of populism.
A more sophisticated strain of criticism originates in the so-called Ordoliberal tradition associated with the Bundesbank. To this day, Weidmann peppers his speeches with quotes from Walter Eucken (1891-1950), the school’s patriarch.
The Ordoliberals had their heyday in the post-war years and were traumatised by hyperinflation in the Weimar Republic. So they insisted that monetary policy must aim for price stability and nothing else. The biggest no-no for any central bank, in their book, was printing money to finance government debt.
But printing money to pay for state borrowing is exactly what conservative Germans suspect the ECB of doing, albeit in a modern and disguised way. That’s why a group of plaintiffs around Peter Gauweiler, a conservative Bavarian politician and lawyer with a typecast walrus mustache, keeps dragging the ECB to Germany’s supreme court in Karlsruhe.
They first did so after Draghi announced, in the throes of the euro crisis in 2012, a policy to buy government bonds of euro countries under market attack (his famous promise to do “whatever it takes” to protect the single currency). It didn’t matter that not a single bond has ever changed hands in this programme, nor that the ECB would have bought securities only in the secondary market.
The judges in the first case hinted that they agreed with the plaintiffs. But they referred the case to the European Court in Luxembourg, which nodded the programme through. Undeterred, the Gauweiler cabal was soon back in Karlsruhe, trying to stop Draghi’s landmark Quantitative Easing programme, under which the ECB has bought trillions of euros of bonds. QE was paused in December, but it will resume on Lagarde’s watch in November. The supreme court’s final verdict is due within months.
Gauweiler and his ilk are hoping that the court prohibits the Bundesbank from participating in QE unless the German parliament gives the green light. That could deprive the programme of about one-quarter of its firepower and throw the markets, and possibly the euro, into a tailspin. Others, including Weidmann, merely want the court to affirm a straightjacket of rules around QE, in effect limiting it.
It’s enough to give Lagarde angst. She has to energise a sluggish euro-area economy in which inflation stubbornly lags well below the ECB’s target of close to 2 per cent. Worse, central bankers everywhere worry that their traditional tools may be inadequate. So they’re casting about for new instruments, up to and including “helicopter money.” Good luck broaching that with the Germans.
In an admission that monetary policy is near its limit, Draghi has been pleading with euro area governments to stimulate demand with fiscal policy, by taxing less or spending more. His main addressee is Berlin, which is running budget surpluses and has been frustratingly recalcitrant. Now it’s Lagarde’s turn to preach to the Germans.
She could tell them the truth, which is roughly the inverse of the German narrative. First, the ECB has had to keep rates low precisely because it must look out for the whole euro area, and not for any one constituency, whether that’s the “the south” or “German savers.” And second, it has had to do this because Germany, with its unnecessarily stingy fiscal policy, has failed to support aggregate demand.
Lagarde knows better than to put it quite so bluntly. Unlike Draghi, she's not a central banker by background, but a politician who has run the French finance ministry and the International Monetary Fund during times of crisis. What she will need in her new job, as she recently told Bloomberg, are "diplomatic skills, political sense, understanding of the perspectives of finance ministers and euro country leaders",
In short, Lagarde will need to coax, cajole and charm. Especially the Germans.