Marsh on Monday
A Grimm tale from the euro zone7/16/12 12:01 AM ET (MarketWatch)Print
LONDON (MarketWatch) -- European monetary union: a chronicle of enthusiasm that ends in disillusionment. As in history, dreams and disaster sit closely together.
The various acts of the drama read like episodes from fairy tales. In "The Sorcerer's Apprentice," "The Magic Porridge Pot" and "The Emperor's New Clothes," Goethe, the Brothers Grimm and Hans Christian Andersen have told the respective stories. They provide the script -- even key characters -- for the saga playing out now.
The sorcerer's apprentice, Jean-Claude Trichet, left to his devices at the peak of his fame, abuses the power of the old Bundesbank wizard. "Now his spirits shall obey my wishes! Having memorized what to say and do, with my powers of will I can do some witching too!"
Low German interest rates magically transform government bonds from inflationary southern Europe into prime-grade investment credits. The inexorable decline in capital-market interest rates gives rise to a dangerous flood. The situation gets out of hand. Trichet cries out desperately: "Deliver me from the spirits that I called!" The old sorcerer from the Bundesbank returns to the scene, commands the Greeks back into their corner: "Out with them." And, once again, on capital markets, calm reigns.
Greece and other southern countries already faced a precursor of future humiliation. As in the Brothers Grimm porridge-pot story, the Greek people appear as "a poor, devout girl who lived alone with her mother, and she had nothing left to eat." With the euro comes conjured up a magic cooking pot. "The girl took the pot home, and they ate sweet porridge as often as they wanted." The more is cooked, the lower the competitiveness, the higher the debts, but nobody knows how to stop the pot from boiling over.
"So it went on cooking and the porridge rose over the edge and still it cooked, and soon kitchen and hearth and home and street and the whole wide world is flooded." Finally, the spell is broken with deflation and de-leveraging. Revitalizing the southern economies requires draining off a deep porridge flow of debt: a long job of pain and sorrow.
And who uncovers the tale of woe? Step forward, Hans-Olaf Henkel, former president of the Federation of German Industry, who was in London last week to formulate his views on the euro, and Hans-Werner Sinn of Germany's Ifo economics research institute. Both have kept up an indefatigable tide of realism on the currency union. Both have pointed to the hopelessness of the debt-deflation imbroglio, the insoluble riddles surrounding the European Central Bank's Target 2 system. Both have been akin to the small boy in the "The Emperor's New Clothes," who divulges that, in fact, that sovereign is not wearing any.
As a result of a combination of vanity, greed, inner self-doubt and desire to keep up appearances at the beginning of monetary union, no one mentioned that even wealthy Germany is not able to shoulder the debts of the others.
All the people who were presented with the new euro garments by Empress Angela Merkel extolled with glee the exotic fabrics, the artistic weaving, the bright sequins. For many months she told her listeners that Germany would do everything possible to save the edifice.
Only toward the end of the story does she admit Germany's limitations -- that the old clothes are threadbare, new ones nonexistent. The giant brought down to Earth as a dwarf.
We've been here before. As with the best fairy tales, one has a feeling it's all going to end in tears.