Germany: Responsible for Europe’s crisis?

BERLIN, Germany — In a deal struck at the end of February that’s expected to serve as a model for the rest of the country, Germany’s robust engineering sector will next year see its smallest wage increase in over a quarter century.

The agreement is a done deal, but its import is still being hotly debated. Most Germans see it as a sign of their preparedness to make painful concessions to the realities of the global financial crisis. To their neighbors in the European Union, though, it’s a doubling-down on policies that have lead to the continent’s currency crisis.

There are many reasons that Germany is considered Europe’s soundest economy. Not only does it enjoy the EU’s largest GDP and the status of world’s second-biggest exporter, but its government has generally not allowed itself the extraordinary budget deficits that are threatening economies elsewhere on the continent. It’s not for nothing that European statesmen expect Berlin to lead efforts to keep afloat crisis-ridden Spain, Ireland and Portugal, while designing a bail-out package to prevent Greece from defaulting on its sovereign debt.

But few imagine that Germany will acknowledge the role it has played in enabling these very problems. Germany’s dominance in exports has come about, not least, because policymakers in Berlin have been willing to artificially hold down domestic demand over the last 10 years, a choice that has come at the expense of other countries in the EU. By voluntarily accepting modest or non-existent wage increases, Germans have kept the prices of their products low.

While that has meant more foreigners have been willing to buy from Germans, it has also resulted in ordinary Germans both having less money in their pockets to buy products from abroad and feeling less disposed to spend their money freely. The results have been predictably lopsided when it comes to trade relations with other European states: In 2009, for instance, Germany exported 6.7 billion euros worth of goods to Greece, but imported only 1.8 billion euros worth in return.

It’s not currency manipulation exactly, but it is not a policy that has encouraged Europe’s weaker countries to grow in responsible, sustainable ways. Other countries, failing to feel much of the positive effect of Germany’s responsible behavior, tapped into the one benefit to which they did have access — namely, low interest rates on borrowing. Greece relied on state spending to drive growth, while Spain allowed itself to be carried away by a housing bubble. These policies were further bolstered by the decision of many Germans to directly invest their saved money in the foreign bond and housing markets.

Now that the bubbles have burst, Berlin expects the profligate countries to deflate their economies to match their real productivity. Since devaluing the currency isn’t an option for individual eurozone countries, this amounts to Berlin ordering wayward European capitals to begin a painful process of deflation and accept a reduction of living standards, all while Germany maintains its course.

But, many independent economists say, it is not realistic to expect Athens to produce the necessary 30 percent reduction in real wages that would be necessary to compete with workers in Germany. The Germans need to make a contribution, they say, by reducing their reliance on exports, and strengthening domestic demand.

“Germans think they have been prudent, they say that Greeks and others should take a leaf out of their book,” said Simon Tilford of the Centre for European Reform in London. “They are nonplussed when others don’t buy into it. But, it’s almost impossible to get the economy growing unless you get exports to Germany.”

Even some German economists insist that their country should be prepared to accept some measure of responsibility for the present crisis.

“Some countries were having a party, and we sent them cooks and waiters,” said Thomas Mayer, chief economist at Deutsche Bank.

But Germans largely don’t take well to this sort of criticism. Most have been astonished to hear what they had seen as the prudence of their country’s economic stewardship turned on its head and portrayed as risky business practice. As an editorial in the economically conservative newspaper Frankfurter Allgemeine Zeitung put it: “Something outrageous is going on: people are trying to make our German virtues seem rotten. We work hard, save large sums of money and buy only the most necessary things. And now that’s supposed to be bad?”

But, ultimately, those German virtues only have purchase in a cooperative economic system.

“Germany is the one who has profited most from the euro for the past 11 years,” said economist Adam Posen of the Peterson Institute of International Economics. “It’s in Germany’s interest to help ease the adjustments of those economies that spend their money on German goods.”

Indeed, the strength of the German economy depends on robust demand from elsewhere in the EU; a deflationary spiral on the European periphery would eventually harm the German heartland. Small improvements in German demand could make the difference between that sort of vicious cycle and a win-win arrangement among EU member states.

But those changes are easier said than done. As much of a role as public policy has played, Germans also have a deep cultural aversion to consuming beyond their means. Usually, that psychology is attributed to cultural memories of the painful 1920s hyperinflation that eventually contributed to the rise of Nazism. German politicians’ greatest challenge may be helping their citizens move past that mindset, so that they can move from focusing on the problems of the past to dealing with those of the present.