Germany’s ‘Beggar Thy Neighbour’

The European Commission is a fervent advocate of fiscal prudence and adherence to European rules, often warning EU member states about excessive deficits, sometimes with the threat of financial penalties. In this context, it is interesting to observe its stance towards Germany’s trade surplus, which has shamelessly exceeded the recommended mandate of 6 percent for years and simultaneously angers everyone, including the United States, whose treasury has equally warned for many years that this represents an unhealthy imbalance with a negative impact on the European and global economy, which is why Germany was placed under observation in April.

As former Fed Chairman Ben Bernanke wrote last year, Germans are in a favorable position thanks to the single currency; had they used the Deutsche Mark instead of the euro, their exports would today be far from competitive. The IMF estimated back in July 2014 that the Deutsche Mark would be 5 to 15 percent stronger than the euro, which has since significantly weakened against the dollar, thereby increasing an advantage that is not necessarily deserved.

Correlations

Of course, this also affects labor costs, so less competitive countries, or nations where the euro has a higher value compared to the old currency or are on the periphery of the Eurozone, must make corrections and reduce wages.

– In a weakly growing world with weak aggregate demand, Germany’s trade surplus is a problem. A handful of other Eurozone members are in deep recession, with high unemployment and without ‘fiscal space’ (meaning in fiscal situations that do not allow them to increase consumption or reduce taxes to stimulate domestic demand). The fact that Germany sells so much more than it buys redirects demand to its neighbors (as well as other countries around the world), reducing output and employment outside Germany at a time when monetary policy in numerous nations reaches its limits.

Persistent imbalances in the Eurozone are also unhealthy as they lead to financial imbalances as well as uneven growth. Ideally, wage reductions in other Eurozone countries, in relation to German wages, would reduce production costs and increase competitiveness. However, in a situation where inflation in the Eurozone is far from the European Central Bank’s target of ‘below 2 percent’, achieving the necessary reduction in relative costs will likely require continuous deflation in nominal wages outside Germany – probably a long and painful process involving an extended period of high unemployment – explains Bernanke.

Eyes Wide Shut

The global discussion about Germany’s trade surplus, which has been exceeding the recommended limit from the Stability and Growth Pact since 2007, has been ongoing for a long time, for many parts of Europe forced into internal wage devaluation and price deflation for too long. The same applies to the silence of the European Commission, which is aware that the strongest European player employs a ‘beggar thy neighbour’ policy.