Emerging Markets’ Europe Problem
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Dominique Moisi
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21 June 2012




PARISFrom Hong Kong to São Paulo, and all points between, one word dominates all others among big investors: Greece. Will the Greeks remain in the eurozone? What will happen to the European Union and the global economy if they do not?


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Until recently, Europe was a sort of mirror that confirmed for the major emerging economies the spectacular nature of their own success. They could contrast their high growth rates with Europe’s high levels of debt. They could oppose their “positive energy” with the pessimism dominating European minds. They were only too willing to advise Europe to work harder and spend less, as legitimate pride mingled with an understandable desire to settle historical scores and attenuate their legacies of colonial submission and humiliation.


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But, today, emerging countries are growing very concerned with what they rightly perceive as the serious risks to their own economies implied by excessive weakness in Europe, which remains the world’s trade leader. Moreover, Europe’s malaise threatens many of these countries’ political stability as well, given the close connectionespecially in China – between the legitimacy of existing arrangements and the continuation of rapid economic growth.


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If the crisis in Europe were to cause annual GDP growth to fall below 7% in China, 5% in India, and 3% in Brazil, these countries’ most vulnerable citizens would be hardest hit. They were never part of the “culture of hope,” based largely on material success, that played a key role in these countries’ success. If social inequalities were to reach new heights, their frustration and resentment could manifest itself fully.


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In that case, Europe could suddenly become a very different mirror for emerging countries, revealing, if not accentuating, their own structural weaknesses. And that is why, just as Europe must save the Greek economy or Spain’s banks at all costs, emerging countries must do whatever they can to contribute to the rescue of the European economy. As Europe has learned, the longer one waits, the higher the cost – and the lower the chance of success.


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Unfortunately, a group of countries that are united above all by a common denial of their global responsibilities is unlikely to reach such a conclusion. Indeed, most emerging countries would balk at the idea of coming to Europe’s financial rescue for several reasons.


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First, there is no such thing as a bloc of emerging countries. They are not united by a common vision of their future, or by a common political ideal, such as democracy in the Western world. Whatever the limits or contradictions of shared values, it would be naive to dismiss their importance. Europe and the United States will remain allies even if Barack Obama, like Nicolas Sarkozy in France, turns out to be a one-term president.


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Second, emerging countries are more Europe’s rivals than its partners. They are united only by their shared suspicion of China. In such a context, a common long-term strategy is extremely difficult to conceive.


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The Chinese may proclaim that they tend to think over a “longerterm than Americans, who think morebroadly,” and Europeans, who think moredeeply,” as a well-known Chinese international relations expert has put it. But, when it comes to the European financial crisis, China’s behavior seems to be determined by purely short-term tactical considerations, even as Chinese investments in Europe tripled in 2011. To buy half of the Piraeus harbor at a knockdown price may seem more advantageous than investing in the long-term consolidation of the Greek economy and its finances, but is that really the case?



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Third, emerging countries’ short-term opportunism is based on a double distrust: towards Europe, of course, but also, paradoxically, towards themselves. That is, they lack confidence in their ability to do their part to save the sick man of the global economy that Europe has become.


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To be sure, this runs counter to the triumphalism emanating from Asia, in particular. Kishore Mahbubani, a leading foreign-policy thinker from Singapore, recently proclaimed in Vienna, at a conference organized by my institute, that the next millennium would be Asian. And yet one senses among elites from emerging countries something akin to existential doubt, which the European crisis has served to reinforce. This insecurity manifests itself in many ways: from the accumulation of liquid wealth as insurance against foreign and domestic uncertainties to the choice of many, if not most, to educate their children abroad.


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In fact, the sick manundeniably European, if not Western – could reveal himself to be more resilient, owing to the strength of his own natural defenses: democracy and the rule of law. That is why the current European crisis may well prove to be a crucial test for emerging countries that are more dynamic than Europe economically, but ultimately more fragile politically.


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Dominique Moisi is the founder of the French Institute of International Affairs (IFRI) and a professor at Institute d’Etudes Politiques (Sciences Po) in Paris. He is the author of The Geopolitics of Emotion: How Cultures of Fear, Humiliation, and Hope are Reshaping the World.



06/22/2012 03:33 PM
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The World from Berlin
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'Crisis Could Change Germany More than Reunification'
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Germany's Constitutional Court has asked the country's president to delay the ratification of the permanent ESM euro bailout fund and the EU fiscal pact. German commentators accuse the chancellor of trying to push the legislation through parliament too quickly.




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Offering a brief boost to opponents of the long-term euro bailout program and the planned European Union fiscal pact, Germany's Federal Constitutional Court on Thursday asked the country's president to hold off on signing the legislation into law if the two bills are approved as expected by the country's legislative chambers next week.





President Joachim Gauck's decision to respect the court's request means that Germany will not be able to ratify the European Stability Mechanism by July 1, which Chancellor Angela Merkel had hoped would send a strong message to the markets. Some opposition politicians are even calling the development a "slap" in the chancellor's face.





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Germany's Left Party and former Justice Minister Herta Däubler-Gmelin of the opposition center-left Social Democratic Party (SPD) have both announced their intentions to challenge the ratification of the treaties after they are approved by the federal parliament, the Bundestag, and the Bundesrat, the legislative chamber that represents the German states, in votes planned for next week.




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Sahra Wagenknecht, an influential member of the Left Party who also serves as the deputy head of its parliamentary group, argued that a deal reached between Merkel's conservative government, the Green Party and the SPD on Thursday to ratify the ESM and fiscal pact treaties was "worthless."



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Wagenknecht and other detractors claim Merkel has tried to push the legislation through parliament too quickly without giving the legislature adequate time to debate the measures. They also claim that the fiscal pact could potentially limit the German parliament's sovereignty in determining budget policy. Wagenknecht described the legislation as no less than a "putsch" against Germany's constitution.


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In recent months, the German Constitutional Court has issued a number of rulings in which it has ordered parliament to be provided a greater say in the government's euro bailout decisions. Most recently, on Tuesday, the court ruled that Merkel's government must move faster and more comprehensively in notifying parliament about important decisions pertaining to the euro rescue.


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Wagenknecht believes the Karlsruhe-based organ may slap the Merkel administration with a similar reprimand over the ESM and fiscal pact. Claiming that the "spirit of the constitution is being changed," the Left Party member wants a national referendum to be held on the treaty.



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Under a compromise reached between Merkel's conservative government, led by her Christian Democratic Union (CDU), and the opposition on Thursday, the ESM and fiscal pact are expected to be approved by parliament on June 29. The opposition Greens and SPD succeeded with their demand that Germany push for a financial transaction tax that would force markets to share the costs of financial crises. The government will also honor their demand that the fiscal pact be complemented with provisions promoting economic growth.


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'Far Too Much Time'



Despite their support for the bills, prominent Greens also criticized Merkel, with Volker Beck, a senior member of the party's parliamentary group, accusing the German leader of waiting too long before opening negotiations in parliament and for delaying the discussion because of key regional elections.



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In the SPD camp, deputy parliamentary group head Hubertus Heil said the government itself was to blame for the delays. "It let far too much time pass before it began negotiating with the opposition," he said. He called on the government to move quickly to clarify any constitutional concerns surrounding the legislation.



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Meanwhile, SPD floor leader Frank-Walter Steinmeier said he didn't anticipate that the ESM or fiscal pact could be ratified by July 1. He anticipated a two-to-three week delay in order to provide the court with enough time to review the constitutionality of the legislation.



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The court's move did draw criticism from at least one member of Merkel's cabinet. Finance Minister Wolfgang Schäuble of Merkel's conservatives complained that the Karlsruhe court had broken protocol by pleading directly with the president. "I don't think it is smart for constitutional organs to communicate with each other publicly. And it is even less prudent for the federal government to comment on it," he said. The conservatives' floor leader Volker Kauder also called on Gauck to ignore the request from Karlsruhe, arguing there was no reason to delay ratification.



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On the editorial pages on Friday, many German newspapers come down critically in their opinions of Merkel's handling of the ESM and fiscal pact, arguing that the decisions entail shifting sovereignty on parts of budget-making policy to Brussels and that a more detailed debate should be conducted.


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The business daily Handelsblatt writes:


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"What actually needs to happen in order to wake up both the German government and the pro-Europe parties in parliament? For the second time in one week, the Constitutional Court has applied the brakes on the government for the overly hasty implementation of euro bailout measures. This time it is 'requesting' that the president wait before signing the treaty on the ESM. It's a preemptive request, because it is assumed that the Left Party and some members of parliament will challenge the decision in parliament and that the court will need two to three weeks to review the suit. With the request, the court is able to avoid having to issue a temporary injunction against the treaty, which could lead to a complete escalation of the situation."



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"The situation that has now been created must also compel supporters of Germany's European Union strategy -- and since the deal reached on Thursday over the fiscal pact and ESM, these also include the CDU/CSU, SPD, FDP and Greens -- to think things over. There are good reasons for ratifying the ESM treaty. But this set of agreements, as well as the vote on the fiscal pact, is not some mere amendment to, say, environmental law. It is about deep encroachments into the national constitution, the transfer of sovereignty to the EU and preparations for new institutions like the ESM that, so far, have only been granted limited democratic legitimacy. It's also about possibly paving the way for actions that would affect Germans' property."




The center-left Süddeutsche Zeitung writes:



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"The timeframe for deciding on this law is an undermining of the court's ruling on Tuesday and it mocks the notion of parliamentary democracy. But out of her desire to position herself as the queen of the euro rescue, the chancellor has degraded the parliamentary vote to the level of a farce. (...) Merkel takes a long time to act, but then she acts with brute force and at the last second. That is not parliamentarianism but a regrettably short-sighted and amateurish style of governing."



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"The new treaties involve enormous sums of money and contain legal constructs that the law has never known before. It will create an ESM company that is above the law. The company will be able to sue but cannot be sued in return. It will be able to do and be what it wants. Is such a euro absolutism necessary to save the euro? How can one control it democratically? (...) One should be able to talk, discuss and deliberate about this. How should people's trust in Europe grow when the government doesn't trust the representatives of the people?"



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"The ESM and the fiscal pact impinge on the core of the Bundestag's budgetary autonomy. The constitutional court judges will probably rule that the constitution's possibilities have been exhausted. They will then only accept the new treaties, when, within a reasonable amount of time, the people are also allowed to decide."



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The conservative Frankfurter Allgemeine Zeitung writes:



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"(The debate between the parties) … is obscuring that fact that nothing less is being negotiated than a reorganization of Germany's fiscal constitution. (...) The power struggle between the federal government and the states over the burdens of the fiscal pact leads the issue right back to where it belongs -- namely out of the party political arena and into the constitutional arena."



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"It won't be the first time that the Constitutional Court rather than the Bundestag has the final word on such an issue, either. As caustic as the Karlsruhe court sounded on Thursday, it absolutely wants to have this last word. And although it might not be timely, it will be legally binding."


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Mass-circulation tabloid Bild writes:




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"The ESM euro rescue fund and the fiscal pact were supposed to be forced through the Bundestag and Bundesrat at top speed. Merkel's government hoped that it would be signed into law by the president the same night. But that is not going to happen. And justifiably so."



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"This is because the euro bailout cannot operate according to the motto that necessity knows no law. The president and the constitutional court have to thoroughly examine these laws. And that requires time. Especially when it's a question of our money."


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-- Daryl Lindsey


Central banks (1)
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When the chips are down
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The European Central Bank has unlimited firepower and limited inclination to use it. The first of two articles on central banks explains the ECB’s thinking
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Jun 23rd 2012
Frankfurt                  


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IN 2008 and 2009, policymakers impressed markets with decisive action. Central banks moved swiftly to slash interest rates and extend liquidity, beefing up balance-sheets in the process (see chart). Governments launched big stimulus programmes. The G20 meetings were a signal of a concerted determination to act.

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Things are different now. At this week’s G20 summit in Mexico, more fingers were pointed than backs slapped. Many governments are intent on tightening policy, not loosening it. Central banks retain the capacity to act: the Bank of England announced new liquidity programmes on June 14th, and on June 20th the Federal Reserve decided to extend a programme to hold more longer-term bonds (see article). But, maddeningly, the institution that needs to do most—the European Central Bank—is hanging back even as the pressure on countries like Spain, whose sovereign-bond yields rose to euro-era highs this week, intensifies.




.The politicians are casting around for solutions of their own. One approach, mooted in Mexico, would be for the zone’s bail-out funds—either the permanent European rescue fund, the European Stability Mechanism (ESM) due to start in July, or the temporary European Financial Stability Facility—to purchase the bonds of struggling countries like Spain and Italy, driving down their yields. Such intervention has previously been conducted by the ECB via its Securities Markets Programme (SMP), which now holds over €200 billion ($250 billion) in government bonds.



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The snag with using the ESM is that its firepower is limited to €500 billion (of which up to €100 billion is already earmarked for Spanish banks). By contrast the ECB’s resources are potentially unlimited. Yet Mario Draghi, the ECB’s president, has made clear that any use of the SMP should be temporary and limited. No purchases have been made over the past three months. Mr Draghi knows that bond-buying alarms the Germans, who regard it as close to monetary financing of states, which is banned by the European treaty establishing the euro.



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And even if the ECB did start buying bonds again, the intervention might be less effective than its proponents hope. Financial markets are now gripped by fears of “subordination”—being pushed down the pecking order of creditors. The ECB’s insistence on being excluded from the Greek sovereign-debt restructuring in March, which resulted in bigger losses for private bondholders, has set a worrying precedent. Investors now worry that any official rescue, whether by the ECB or the ESM, will claim a similar privilege.


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Another way in which the ECB could calm things down would be to prime its “Big Bertha again and to fire off a third round of long-term funding for European banks, maybe providing loans for even longer than the three-year term on those made in December and February. Those two LTROs (longer-term refinancing operations) were successful in cowing the markets, at least for a time. And the ECB feels on much safer ground when it lends to banks (even if they then lend to governments) than when it steps into the swamp of sovereign-bond markets.




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Yet the case for another LTRO is less compelling than before. The funding drought that prompted the first two has largely been quenched thanks to the big take-up of those earlier offers, which amounted to just over €1 trillion of three-year money. Mr Draghi said on June 15th that constraints on the supply of bank credit had been removed. As with the policy of quantitative easing pursued in America and Britain, there may be diminishing returns to unorthodox policies: having banks load up on even more domestic government debt is not ideal, for example.



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That leaves more orthodox approaches. There are certainly compelling reasons for the ECB to ease monetary policy. The euro area may have managed to dodge recession in early 2012 (when output remained flat after declining by 0.3% in late 2011), but GDP seems to have slipped back in the second quarter. A clutch of business surveys, including the latest ZEW indicator of confidence among German investors, paint a dismal picture of the rot spreading from the periphery to the German core. The second quarter started wretchedly: euro-zone industrial output contracted by 0.8% in April from March; the monthly fall in Germany was 2%.



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To counter this weakening, the ECB looks likely to cut interest rates when its governing council meets on July 5th. Its benchmark rate has stood at 1% since December. If it were to be cut to 0.5% (similar to the rate in Britain), this would affect not just new lending by the ECB but the rate charged on the LTROs (for which banks will be charged the average interest rate over the three years). Any reduction would probably occur in two quarter-point steps, as happened late last year when the ECB brought down the rate from 1.5% to 1%.


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Such a move may bolster Germany and other solid northern economies, but it will do little to help the euro area’s foundering southern economies. The fundamental problem that Mr Draghi faces is the acute divergence within the euro zone as capital flight sucks funds out of the periphery and into the core, making monetary conditions simultaneously tight and loose. In Germany, despite recent gloom, businesses and households can borrow readily at cheap rates. In southern Europe, banks are restricting the supply of credit; those loans that are available are expensive.




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Mr Draghi has long argued that the solution to the euro crisis lies in the hands of politicians. If European leaders fail to deliver when they meet for yet another summit in Brussels at the end of June, the ECB will remain in a quandary. Trying to implement a common monetary policy for the euro zone was always a tough task. But in a rapidly fragmenting currency area, it is well-nigh impossible.



Central banks (2)

The munificent seven

The Federal Reserve extends Operation Twist

Jun 23rd 2012
Washington, DC               


THE Federal Reserve cannot be accused of sitting on its hands. On June 20th it announced its seventh instalment of unconventional monetary policy since running out of orthodox ammunition in late 2008, when short-term interest rates fell, in effect, to zero. In its latest salvo, the Fed said it would purchase $267 billion of long-term bonds by the end of the year, paid for from the proceeds of sales of short-term bonds in its portfolio.
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The move extends a programme, nicknamed Operation Twist, announced last autumn and due to expire this month, under which the Fed has swapped $400 billion of short-term bonds for long-term ones. Previous initiatives have included purchasing bonds with newly created money (“quantitative easing”, or QE), reinvesting the proceeds of maturing bonds, and verbally committing to keeping rates near zero for ever longer periods. All are designed to drag long-term interest rates down in the hope of stimulating demand.
Like its predecessors, this latest round of monetary easing was motivated by the economy’s failure to grow as quickly as the Fed had forecast. Members of the Federal Open Market Committee (FOMC), the Fed’s main policymaking body, now expect growth of between 1.9% and 2.4% this year, down sharply from their April forecast of growth between 2.4% and 2.9%. This time a year ago, FOMC members were expecting growth of about 3.5% in 2012.






They also downgraded their outlook for the next two years. They expect almost no improvement in unemployment, now 8.2%, in 2013. And although the Fed set an inflation target of 2% in January, many Fed officials apparently expect to undershoot it between now and 2014.






The big question, given these downbeat forecasts, is why the Fed has not acted even more aggressively. The pessimistic answer is that it cannot do more. In theory, QE allows unlimited purchases of debt, of many different flavours. But Ben Bernanke, the Fed chairman, frets over the risks of doing so: a bigger balance-sheet that is harder to shrink later; impaired markets; and financial instability, a euphemism for bubbles. What the Fed would really like, he said, is for Europe to fix its crisis and America’s politicians to avoid the “fiscal cliff”, the near-simultaneous squeeze of tax increases and spending cuts programmed to occur at year-end.



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A more optimistic answer is that, before long, the Fed will do more. Mr Bernanke promised the Fed will act if needed. At present, it is trying to sort through the economic data to figure out how much of the recent weakening in America’s economy is real, rather than a statistical fluke. It is also awaiting the outcome of events in Europe. Sadly, developments on both sides of the Atlantic seem likely to lead to more action.



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What form would such action take? By the end of the year, when the Fed has sold the last of its short-term bonds, Operation Twist will have reached its limit. That suggests QE would be the favoured option, particularly if the Fed can wait until the election campaign is over and act without being accused of helping one candidate or another. If the economy really appears to be heading over the fiscal cliff, the Fed will not want to worsen the impact by holding back a monetary cushion.