Friday, 18 May 2012

Obama gets tough with Merkel, but is it too late?

Now that German Chancellor Angela Merkel has been hobbled by the loss of her key ally in France, it seems the Obama administration is wasting no time in pressuring her into a course correction. The chorus of anti-austerity (and by extension anti-Merkel) voices is growing louder by the minute.

At next week’s G8 summit at Camp David, Barack Obama is reportedly going to put pressure on Germany to drop its insistence on the Eurozone economies adopting a severe austerity regime. He will ask Merkel to instead pursue a policy of stimulus and growth. He will apparently do so in no uncertain terms – warning Merkel that if she does not change course quickly she risks plunging the world into another deep recession that would be even worse than the Lehman Bros collapse in 2008.

The Guardian reports that the Obama administration is expected to try to forge close ties with new French President Francois Hollande at the first meeting of the two leaders on Tuesday. They are keen to rapidly establish Hollande as an ally in exerting pressure on Merkel to change course.

Obama already has the support of UK Prime Minister David Cameron, who while unwavering in his demand for austerity at home, publicly chastised the German chancellor in a speech yesterday for her lack of flexibility. Saying that the eurozone either had to “make up…or break up”, he said urgent steps are needed quickly to prevent an economic implosion of epic proportions in the coming weeks. He will reportedly tell Merkel this weekend to use Germany's wealth to rescue Southern Europe before it is too late.

The calls from political leaders echo the consensus now emerging in the media: Merkel’s austerity strategy has failed. “Her one-size-fits-all austerity program has been a failure, pushing heavily indebted countries deeper into recession, making it even harder for them to pay off their debts,” a New York Times editorial today declares. “It is putting the already-weak recovery in the United States at risk and is fueling instability and extremism in Europe.”

Both Cameron and Obama have a personal stake in this. A collapse of the eurozone would destroy America’s fragile economic recovery which could spell doom for Obama’s re-election. The running joke in Europe now is that the only person who will decide whether Obama is re-elected is Angela Merkel. In Britain, which is not experiencing a recovery but instead finds itself in an absolute economic mess, a Eurozone collapse could literally make the economy fall off a cliff.

On the verge of collapse

The stakes are high, and a series of meetings between the world’s leaders over the coming week will be critical. Following the G8 meeting in Washington, EU leaders will hold an emergency meeting Wednesday night. It was originally called by Council President Herman Van Rompuy last week following the French election, in order to give a platform for the new French President to outline his calls for growth.

But instead it will likely focus on the Greek crisis, which now appears to have reached boiling point. An inconclusive election earlier this month, which evenly split the parliament between the main parties who want to adhere to Merkel’s austerity demands for receiving the bail-out, and fringe parties who refuse to adhere to the conditions. No majority coalition could be found and new elections have been called for next month. Opinion polls say this election will give even more parliamentary seats to the anti-austerity parties. Greece is at an impasse.

The common wisdom is now that Greece will leave the euro, in a matter of weeks. The implications for Greece are clear - a return to the drachma in Greece will require all banks to shut down for months, causing an inevitable bankrun. The country will almost certainly default, leading the economy to collapse.

Leading political personalities in Greece were sounding alarm bells over the potential of an exit. Former Greek Prime Minister Costas Simitis said reverting to the drachma would be a “catastrophe” for the nation. Outgoing Minister for Citizen Protection Michalis Chrysohoidis told Greek radio the country could return to civil war if it left the euro. “What will prevail are armed gangs with Kalashnikovs and which one has the greatest number of Kalashnikovs will count,” he said.

This is not just hyperbole from political leaders trying to scare the Greek population into supporting the bail-out in the next election. The FinancialTimes wrote today that a Grexit, “would be chaos. Unpaid police officers and soldiers are unlikely to keep order. Looting and rioting could occur. A coup or civil war would be conceivable. Any new currency would depreciate and inflation would soar.”

But the pain will not be confined to Greece. There are obvious fears of contagion. With the banking crisis in Spain spiralling out of control this week, people are predicting that it would be the next to go, possibly followed by Portugal, in a disastrous domino effect.

Even if such a domino effect after the ‘Grexit’ were to be avoided, the cold hard reality is that the Euro could no longer be a stable currency after such an event. As the Financial Times wrote today,
“The eurozone either is an irrevocable currency union or it is not. If countries in difficulty leave, it is not. It is then an exceptionally rigid fixed-currency system. That would have two dire results: people would not trust in its survival and the economic benefits of the single currency would largely disappear.”
 Yet a Grexit may at this point be inevitable. If it is true that Merkel’s strategy for dealing with the euro crisis has failed, than history will mark it as a failure of epic proportions. There seems to now be overwhelming pressure for Europe to change course, but it may be too late. The damage may have already been done.

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