This essay was initially written as part of an exam for the course “European Economic and Monetary Union” at University Leiden.
Angela Merkel steps down. After 16 years as German Chancellor, she will no longer be running in the federal elections on Sunday, September 26. Thus, after the federal elections, it will be decided who will steer the fortunes at the head of the government from now on: SPD chancellor candidate Olaf Scholz, the new CDU chairman Armin Laschet, or surprisingly but not very realistically, the Green Party’s top candidate Annalena Baerbock.
Regardless of which of the three candidates wins, Merkel will leave a political vacuum. Born in Hamburg, she was a stabilizing force both in Germany and in the EU and was particularly adept at finding compromises between different political camps. Moreover, the EU is losing its longest-serving head of government; and with her, a politician who (together with France) set the direction in the Union. From the sovereign debt crisis to the migration crisis, the complexities of Brexit to the ongoing COVID-19 crisis, Merkel lived up to her reputation as a crisis manager. Even though there was much criticism of her sometimes restrictive (keyword sovereign debt crisis) and too liberal (keyword migration crisis) stance, the crises were ultimately overcome.
One of Merkel’s last throws, together with French President Emmanuel Macron, was the proposal of a 500-billion-euro recovery fund. This was to provide grants to the EU member states worst affected by Covid-19. Accordingly, on May 27, 2020, the European Commission published its proposal for a stimulus fund and an updated long-term EU budget, the multiannual financial framework (MFF) for 2021-2027. Finally, in mid-July 2020, EU leaders agreed on a 750-billion-euro recovery plan to help the EU deal with the crisis caused by the pandemic. In addition, an agreement was reached on the long-term EU budget of 1074 billion euros for the period 2021-2027 (European Council, 2021). 1
The EU recovery plan not only represented the first time a form of joint debt issuance (to finance “Next Generation EU“, the European Commission will borrow up to 750 billion euros in 2018 prices on the capital markets on behalf of the EU). The EU also responded far more quickly than to the economic downturn of the global financial crisis in 2008 when it took policymakers two years to agree on an update to their fiscal governance rules (Jones, 2020).
Against the backdrop of the important German federal election at the end of September and Merkel’s retirement from the top government post, it is time to reflect on the handling of her “first“ crisis in the EU, the 2010-2012 sovereign debt crisis.
The outbreak of the sovereign debt crisis
The outbreak of the sovereign debt crisis 2 at the end of 2009 subsequently triggered several consequences of an economic, political and institutional nature (Lane, 2012; Galpin, 2015). In economic terms, the deficit ratio and the debt-to-GDP ratio at the end of 2009 proved to be higher in some member states than allowed under the Stability and Growth Pact (SGP). In Ireland and Spain, tax revenues declined faster than GDP. The reason was declining “construction activity and asset prices“ and resulting in lower tax revenues (Lane, 2012). The losses from bad loans in the banking sector in these countries also led to a loss of confidence in the government bond market. Investors perceived the banks as increasingly unstable and realised that this also entailed “fiscal risks“ (Lane, 2012).
In Greece, the government deficit increased to 12.7 % of GDP (according to the revised budget forecast from 2009), while only 6.0 % had originally been expected. The (revised) budget accounts of the past few years also showed higher deficits than actually indicated. Moreover, the yields on Greek ten-year government bonds started to diverge from the rest of the European Union (EU) member states (France, Germany, Ireland, Italy, Portugal, and Spain) in early 2010 (Lane, 2012). Jones (2010, 22) describes well the underlying problem in Greece: “A small country borrowed itself into trouble without any sanction from European authorities and with few, if any, penalties in the market. Moreover, it did so simply because it could, or rather, because not doing so would have been more difficult. Greek politicians wanted to borrow money rather than make difficult spending cuts or tax rises, and that money was freely available.“ Eventually, Greece was the first EU member state to receive financial aid in May 2010 (Lane, 2012).
Irish and Portuguese yield spreads (on ten year’s government bonds) also began to diverge significantly from Germany (as well as France) in 2010 and the first six months of 2011. Italian and Spanish yields also showed an increase compared to Germany and France, although spreads did not diverge as much as in the case of Greece, Portugal and Ireland (Lane, 2012). As a result, fears have been raised among the EU member states that the Economic and Monetary Union (EMU) could break apart. This in turn could have consequences for the European integration project as a whole, in terms of a possible disintegration (Schild, 2013).
Politically, Germany (along with France) came to play a central role in the sovereign debt crisis due to its economic strength and the influential role of Chancellor Angela Merkel. Merkel was faced with the task of both making it clear that Germany is committed to the EU integration project, but nevertheless clearly addressing what she saw as the lax handling of public finances by some member states. Overall, Merkel’s position was that “budgetary rigor and austerity“ (Hertner;Miskimmon, 2015) must be adhered to strictly and that the high public debt of the troubled member states was to blame for the crisis (and not structural deficits in the initial design of EMU) (Hertner;Miskimmon, 2015).
Nevertheless, after Merkel’s initial reluctance in spring 2010 to help Greece out of the crisis, several EU reforms were subsequently launched, namely fiscal rescue packages for some member states and new fiscal governance structures to oversee national budgets (Degner;Leuffen, 2018). The first rescue packages were provided to Greece in May 2010, with Ireland following in December 2010, along with Portugal in May 2011, and subsequent financial assistance to Greece in July 2011 and February 2012. Ireland and Portugal received their financial assistance through the intergovernmental European Financial Stability Facility (EFSF) that had been launched in May 2010 to temporarily help out member states in economic distress (Birbeck, 2010; Schild, 2013). Subsequently, the European Stability Mechanism (ESM) was created in September 2012 as a “permanent stabilisation fund“ with a limited ESM lending capacity of 500 billion euros. However, these two funds (as well as the first rescue package for Greece), at this time, “violated a core principle of the Maastricht Treaty, the no bail-out clause (Art. 125 TFEU)“ (Schild, 2013).
Moreover, the “Six Pack“ and “Two Pack“reforms were launched in 2011 and 2013 to strengthen the SGP. They aimed to improve fiscal and macroeconomic governance among eurozone member states and provide “the framework for preventing excessive macroeconomic imbalances and fiscal deficits“ (Steinberg;Vermeiren, 2016). In March 2012, the Treaty on Stability, Coordination and Governance in the Economic and Monetary Union (TSCG) was agreed upon with the primary task of having a “balanced budget rule“in national jurisdictions (with the Fiscal Compact at its centre) (European Commission, 2017).
Against this background, the question of this analysis is the following: Why did the German government initially resist financial support for Greece but eventually (and reluctantly) agreed to it?
Answering the question is of interest because it can explain one of the design flaws of the Maastricht Treaty 1992. These are the poor framework conditions of the intergovernmental architecture of economic policy and the resulting ineffective compliance with fiscal rules as well as the lack of a necessary crisis management mechanism in the eurozone (see Lane, 2012). Originally, the Maastricht Treaty stipulated that member states could not be responsible for taking on the debt of another member state (now Article 125 TFEU, ex Article 103 TEC) (EUR-Law, 2016). This provision was often understood to mean that “bailing out“ other countries by lending to them was also prohibited (Gerner-Beuerle, 2015). Accordingly, German Chancellor Angela Merkel was against putting together crisis packages to support Greece at the beginning of the emerging sovereign debt crisis in the spring of 2010. But what was the reason for her reluctant attitude? What factors in Germany had to do with it?
This paper attempts to shed light on the extent to which Germany has changed its strict “no bailout position“, why, on the basis of which decisions, and how this has manifested itself during the sovereign debt crisis in the eurozone.
Germany as a driver of European monetary integration
Against the background of Germany’s central role in the whole euro crisis, it is important to establish what kind of role the country has played in the overall European integration process towards a monetary union. Kaltenthaler (2002) argues that Germany was primarily responsible for pushing the various steps in the monetary integration process. Already during the first plans to create a European monetary union at the end of the 1960s, the country showed great commitment. The Bretton Woods monetary system began to lose coherence as the United States (US) placed more emphasis on the national economy, to the detriment of the external value of the US dollar. The collapse of the international monetary regime would have had a negative impact on exchange rates in the member states of the European Community (EC) and thus on trade flows between them. 3 That is why the establishment of a separate European monetary union was put on the table, not least through the strong efforts of German politicians. In 1969, Chancellor Willy Brandt openly supported the idea of a European Monetary Union (EMU) (on the basis of the Barre Report published in the same year) (Kaltenthaler, 2010). One argument was to support the broader idea of European integration and the special cooperation between Germany and France. However, the EMU plans were discarded by the member states in the mid-1970s because no agreement could be found (Kaltenthaler, 2010).
The next major step was the European Monetary System (EMS), proposed in 1977 by the President of the European Commission, Roy Jenkins. The “European unit of account“ was to be the center of the fixed exchange rate system, to which the other currencies were to be pegged in fixed bands. The idea behind this was that monetary instability between member states would make intra-community trade more difficult due to instabilities in exchange rates. Germany under Chancellor Helmut Schmidt again showed great political commitment to this EC initiative. Schmidt in particular saw this as an opportunity to deepen the strong Franco-German relations at the heart of the European integration project (Kaltenthaler, 2010). Finally, the EMS was introduced in 1979, with Germany playing a key role by pegging the other currencies of the other EMS member states to the D-Mark (Kaltenthaler, 2010). However, the EMS eventually failed due to currency speculation and the withdrawal of member states from the EMS (UK and Italy), among other things (in 1999, the EMU was launched as the successor of the EMS) (Delivorias, 2015).
The French proposal for a European Monetary Union in the late 1980s was not perceived positively by influential actors in Germany (namely the Bundesbank, the Ministry of Finance, and the banking and industrial sectors) due to fears of overtaking their own monetary policy and a strong commitment to price stability
(Kaltenthaler, 2010). In the period before German reunification in 1990, however, Chancellor Helmut Kohl’s view changed in the direction of a greater opening towards EMU. There are basically two reasons for this. First, France could put Germany under some pressure here since France was an occupying actor and could potentially block German reunification. Subsequently, the perception of the political benefits of the introduction of EMU changed positively, also among the German public. Secondly, the prospect of German reunification and a larger economic market in the East meant that it would be easier for the banking and industrial sectors to react positively to the EMU proposal from their side Kaltenthaler, 2010). Subsequently, Germany became, together with France the driving force of setting up the necessary treaty changes (the agreement on the Treaty on European Union, the Maastricht Treaty, in 1992) that lead to the eventual introduction of the EMU in 1999 (Loedel).
The uprising sovereign debt crisis in Europe
First, I will outline the economic problems that arose when Greece’s high public debt began to cause problems for the economy and possible contagion effects for other EU member states in spring 2010. In 2009, Greece’s fiscal deficit stood at around 12.7 % of GDP, while the public debt burden amounted to 113 % of GDP. Rohit (2010, 77) makes the claim that there are some underlying factors to it. The part of wages in GDP declined because Greek wages for workers did not increase as much as the “growth of productivity“ (Rohit, 2010). Thus, the share of consumption in GDP declined, as workers tend to have the highest consumption expenditure. “A decline in income multiplier, ceteris paribus, adversely affects investment, and thereby, the GDP in future periods. This coupled with trade deficit severely limits all the sources of demand in an economy. For a given level of government expenditure and a near stagnant or at best slowly growing GDP and, therefore, tax revenue, means a higher fiscal deficit and growing public debt over time“ (Rohit, 2010).
Another reason for Greek’s problem had to do with the export-led growth of Germany. Steinberg and Vermeiren (2016, 390) write that during the EMU phase Germany relied more and more on this export-oriented principle and as a result built up a higher trade surplus inside the EA than outside it. “The elimination of exchange rate risk also increased German banks’ incentives to earn huge carry-trade profits by investing these trade surpluses in higher-yielding assets issued by debtor countries in the region, leading to a net creditor position of Germany vis-à-vis the rest of the EA of more than 20 per cent of GDP (Bibow, 2013).“ (Steinberg;Vermeiren, 2016). We need to look here at the relative labour costs in Germany compared to Greece (but also countries like Portugal, Spain, and Ireland). Over a ten-year period, between 2000 and 2010, German unit labour costs increased by 5 %, while in Greece this figure was at 30 %. This meant that Germany had “relative advantages over Greece in its effort to maintain export competitiveness“ (Rohit, 2010). Germany had a trade surplus, Greece was confronted with a trade deficit. When Greece imported goods from Germany, it resulted in decreasing tax revenue for Greece because the purchase in the country was credited to the exporters from Germany. Thus, Germany’s export-led trade principle put Greece at a certain disadvantage (Rohit, 2010).
At the beginning of 2010, Greece had no problem taking on new debt. Still, in April 2010, the country was still able to raise 1.5 billion euros in short-term loans on the markets (also, in January and March, Greece was able to do so). Servicing the debt was not the problem either (this represents the debits to pay the interest on the debt stock). Rather, according to Jones (2010, 28-29), it was the need to finance old debts that were coming due by taking on new ones. He writes: “Specifically, markets worried that the Greek government would have trouble refinancing. Just under € 8.1bn in bonds were to come due on 19 May 2010, with another € 400 million maturing fewer than two weeks later. Both of these existing tranches of debt carried very high coupons (or fixed interest payments) of 6 %. Refinancing them at a similar rate of interest would not be a problem. A failure to refinance would“ (Jones, 2010; see also Schwarzer, 2013).
After Greece’s difficulties in refinancing its debt became apparent, a contagion effect on the other eurozone member states became noticeable. Investors who had long-term prospects began to pull out their capital, believing that the investments carried too much risk (Schwarzer, 2013). Bondholders reacted by pricing in “the risk of a euro area break-up“ (Schwarzer, 2013). The higher interest rates become, the more likely the possibility of default looms and market investors will ask for higher yields, with default becoming a realistic outcome (Lane, 2012).
Initial refusal for providing direct financial assistance by Chancellor Merkel
When it became clear in late 2009 that Greece had given false figures in the budget accounts and a higher fiscal deficit than expected, German Chancellor Merkel refused any financial commitment to Greece. In December 2009, she declared at a European Council summit: “Greece must accept its responsibility to reform“ (Jones, 2010). Merkel remained firm in early 2010 when Greece’s debt burden assumed problematic proportions and the bond markets reacted critically to the country (Hennessy, 2017). On 11 February 2010, during talks with French President Nicolas Sarkozy, Merkel reiterated that Greece must focus on implementing the budget consolidation targets, because “the rules have to be followed“ (Jones, 2010; see also Hennessy, 2017). In this context, the German Chancellor referred to the “no bailout clause“ first introduced in the Maastricht Treaty. This provision is twofold: first, financial commitments to member states in economic distress are forbidden (Article 125 TFEU) as well as the “monetary state financing through the ECB (European Central Bank, note)“ (according to Article 123 TFEU). The first provision rests on the assumption that financial support interferes with countries taking responsibility for their own fiscal accounts (De Grauwe;Ji;Steinbach, 2016).
But in March 2010 Merkel changed her mind slightly. She declared that Greece’s difficulties were possibly too big for the country to solve by itself. At the end of March 2010, she told a European Council summit that Germany would only provide bilateral aid as a “‘last resort … when market financing is no longer possible’“ (Jones, 2010). Greece requested help from the EU on 23 April 2010 due to the risk of becoming insolvent (Degner;Leuffen, 2018). While the German Chancellor still stuck quite strictly to her line in April, in May, in view of the bad situation in Greece, there was nothing else to do but to grant aid through the European Union for three years totalling 80 billion euros (the IMF contributed 30 billion euros on top of that) (Jones, 2010). Merkel designated this a “last resort“ and “an emergency situation“ (Jones, 2010). The Bundestag passed the government’s bill on the Greek bailout package on 3 May 2010. Germany‘s share amounted to 22.4 billion euros in the form of bilateral loans (Degner;Leuffen, 2018).
Schild (2013) argues that Merkel’s decision not to provide loan guarantees until 7 May was also partly motivated by a state election in North Rhine-Westphalia that was important for the CDU at the time (Schild, 2013). Degner and Leuffen (2018) in turn note that the German government also had to balance the interests of the public in Germany, which was against any aid to Greece, and those of the representatives of the banking and industrial sectors, other EU countries and the ECB for rescue measures. Thus, the German government found a middle way that provided some financial aid through bilateral loans, but at the same time insisted on fiscal austerity and reforms in Greece (Degner;Leuffen, 2018).
(Historical) reasons for Merkel’s initial reservation
I) Adherence to EU’s fiscal rules
There is one main reason why Germany under Merkel decided not to give financial aid to Greece at first. It had to do with the country’s (historical) principles within the EMU. Because there are three essential elements that together could form a “stable monetary order“ (Degner;Leuffen, 2018). A strong central bank that is based on independence while providing for a “stability-oriented monetary policy“and a ban on buying government bonds of eurozone member states (Degner;Leuffen, 2018). In addition, specific rules to ensure that public finances in the eurozone member states remain stable (see Stability and Growth Pact, SGP, together with the corrective arm and the excessive deficit procedure at pp. 13, 18), and that member states independently adhere to their own fiscal policies (as well as broader economic policies) (Brunnermeier;James; Landau, 2016; see also Schild, 2013). The last point, as mentioned above, is to some extent enshrined in the “no-bail-out“ provision of the TFEU. However, the sovereign debt crisis showed the significant flaws of this EMU design (Schild, 2013).
First and foremost, Merkel wanted to stick to the rules-based framework within the EMU (Hertner;Miskimmon, 2015). To this end, I analyze the important provisions of the Maastricht Treaty and outline the compromises made between Germany and France for the establishment of the EMU. Originally, the German Bundesbank wanted to prevent imported inflation to Germany when creating an EMU (Brunnermeier;James; Landau, 2016). The German “economist“ tradition was committed to the principle that member states must demonstrate their commitment to monetary stability and that macroeconomic convergence between (prospective) member states is guaranteed (Brunnermeier;James;Landau, 2016). As part of European monetary integration, the nominal convergence criteria were agreed by the EU member states in 1991 as a prerequisite for membership in EMU. These are the following: “Price stability“ which is measured through “harmonised consumer price inflation“; “sound and sustainable public finances“, expressed in certain public deficit and debt thresholds; “durability of convergence“, measured in long-term interest rates; and “exchange rate stability“, measured through developments in the European exchange rate mechanism (ERM II) (Kutlu;Kavrukkoca, 2017; see also European Commission). 4
The overall objective of the Maastricht Treaty was to ensure price stability among EMU member states and that national accounts are solvent without the need for direct payments from outside or devaluation of government debt triggered by inflation (Obstfeld, 2013). This was intended to prevent excessive national budget deficits and overall government debt. In Article 126 TFEU (ex-Article 104 TEC) the excessive deficit procedure is stipulated: “1. Member States shall avoid excessive government deficits. 2. The Commission shall monitor the development of the budgetary situation and of the stock of government debt in the Member States with a view to identifying gross errors (…)“ (EUR-Lex). 5 The protocol on the excessive deficit procedure enshrined the values mentioned in Article 126 (2) TFEU. “- 3 % for the ratio of the planned or actual government deficit to the gross domestic product at market prices; – 60 % for the ratio of government debt to the gross domestic product at market prices“ (Protocol (No 12) on the Excessive Deficit Procedure). These thresholds in terms of government deficit and government debt were thus not allowed to be exceeded (and still are not).
However, the Maastricht Treaty had design flaws in this regard, resulting from both the intergovernmental architecture and ineffective compliance with fiscal rules. The intergovernmental architecture of economic policy in the Maastricht Treaty meant that the Council was responsible for monitoring economic policy for compliance by member states (see Beetsma;Bordignon;Duchene;Szczurek;Thygesen). The European Commission could only make proposals to the Council but not recommendations. The Council, in turn, could decide whether to trigger an Excessive Deficit Procedure (EDP) by a qualified majority of the member states (without the member states that is confronted with the EDP) (Delivorias, 2021; EUR-Lex). Moreover, compliance with these fiscal rules remained difficult in the further years. For instance, France and Germany both exceeded the deficit rule in 2003, but the introduction of sanctions was avoided due to a qualified majority driven by the two countries (de Streel, 2013). Accordingly, fiscal rules were not very effectively followed by member states. According to the latest EU statistics, average compliance with fiscal rules between 1998 and 2019 was 55 % across the EU, and 52 percent in the euro area (thus, after the introduction of the SGP in 1997, note) (Larch; Santacroce, 2020; see for detailed dataset European Commission). 6
Multilateral surveillance enshrined in the Maastricht Treaty should ensure that there are no excessive government deficits and that economic policy coordination is guaranteed (EUR-Lex; EUR-Lex, Article 121). Article 121 TFEU (ex-Article 99 TEC) sets the role of the Council (see footnote). 7
Closely related to the implementation of the fiscal rules of the Maastricht Treaty is the introduction of the SGP in 1997 to encourage member states to pursue robust fiscal policies (European Central Bank; Delivorias, 2021). 8 The primary aim of the SGP was to ensure fiscal disciple among the member states in the EMU. Germany and the Netherlands were the driving factors for the introduction of a more coherent, rules-based framework. The reasons were that in the years to come more member states would join EMU that had not strictly adhered to the fiscal rules before. In addition, Germany and the Netherlands were under domestic political pressure to do so (Delivorias, 2021). However, the fiscal rules in the SGP did not lead to any implementation in the national regulations of the member states (Schuknecht, 2002).
II) Adherence to the liability principle
Moreover, there was another design flaw in the EMU, namely the lack of a sufficient crisis mechanism in times of economic (as well as financial) crisis. This can also be explained by history. In Germany, the prevailing understanding of economic policy is based on a decentralized distribution of power and a federal state structure. Economic actors should be given as much freedom as possible; moral hazard problems caused by an excessive (fiscal) safety net are therefore viewed very critically. From this point of view, German politicians often follow the tradition that the eurozone member states have to do their “own homework“ and therefore there will be no bailouts. The underlying concept is the liability principle, which plays a very important role in Germany: the actor who is free to act must also bear corresponding (negative) consequences. Germany has also followed the principle of “decentralized fiscal“ governance at the European level (at least before the sovereign debt crisis), which means that each member state bears the liability for the debt (Brunnermeier;James;Landau, 2016). This was reflected in the design of the EMU. For the Maastricht Treaty did not implement a uniform and fully integrated fiscal union, under which direct fiscal transfers could be permitted to member states. But in such an architecture of fiscal solidarity, according to Germany at the time, member states would be tempted to handle their public budgets badly and to invest too much and take too much risk (Brunnermeier;James;Landau, 2016). “If things turn out badly, others bail them out“ (Brunnermeier;James;Landau, 2016)
Fiscal rescue packages
But how did it come about that Germany under Chancellor Merkel finally agreed to the bailout package for Greece in May 2010? In my opinion, there are two main reasons for it: again, historical ones that have to do with the European integration project as a whole, and secondly reasons for political leadership in the EU. First, according to Hertner (2015), the narrative of the German government under Merkel was characterized by a “historical memory“ between May 2010 and June 2012. Public statements by German politicians during this period clearly reflect this approach. Both Merkel and then Finance Minister Wolfgang Schäuble, as well as former Foreign Minister Guido Westerwelle, spoke several times of the responsibility from the country’s history to show solidarity with EU member states in economic distress. Merkel’s speech in the German Bundestag in May 2010 as part of the ratification of the first rescue package for Greece reflects this: “Germany, the strongest economic nation in Europe, has a special responsibility in this situation, and Germany takes this responsibility. The happy history of Germany after World War II, the development into a free, unified, and strong country, cannot be separated from Euro-pean history, not even in thought. … Germany lives in the European Union in a union of destiny. We owe it decades of peace, prosperity, and friendship with our neighbors“ (Hertner;Miskimmon, 2015). But this “historical narrative“ also underwent a certain transformation in the course of the crisis. In 2011 and 2012, Germany contributed more money under the bailout packages. Thus, Merkel also emphasized that Italy and Greece had some responsibility to “reform their economies and conform to stricter EU rules“ (Hertner;Miskimmon, 2015). The solidarity shown with the southern member states was thus based on the principle of a certain conditionality (Hertner;Miskimmon, 2015).
Moreover, a break-up of the eurozone would have been very expensive for Germany. Related to this was the realization by member states that appropriate crisis management and reforms were needed to prevent future crises of this kind (Schwarzer, 2013). 9 Calculations following a breakup of the euro zone “assumed a devaluation of 80 % for Greece, 50 % for Spain, Portugal and Ireland, 25 % for Italy and 15 % for France against a renewed Deutschmark“ (Steinberg;Vermeiren, 2016). Thus, also profitability and employment in areas that rely heavily on exports in Germany would have suffered. Steinberg and Vermeiren refer to Peterson’s (2013) calculation that a German exit from the euro zone would have resulted in a cumulative output loss of 1.2 trillion euros (Steinberg;Vermeiren, 2016).
The second reason, that of political leadership in the EU, is related to the question of maintaining the European integration project. As mentioned earlier, Germany has historically been a driving force in the establishment and introduction of a European Economic and Monetary Union. Against this background, the German government saw the “fates of the Euro and the European Union are inextricably linked“ (Hertner;Miskimmon, 2015). Former Finance Minister Schäuble said in the context of the ratification of the first rescue package for the Greek state in the German Bundestag: “We have to defend the common European currency. And by doing this we defend the European project“ (Hertner;Miskimmon, 2015). This political thinking was also evident a year later when Chancellor Merkel stood before the Bundestag to ratify the European Financial Stabilization Facility (EFSF, see below at pp. 18-19), under intense pressure from abroad: “When the euro fails, Europe fails“. Germany (as well as France) was able to benefit enormously from the introduction of the euro as well as the EU internal market (Hertner;Miskimmon, 2015). One of the important factors was also the great export strength of Germany to sell its products to the EU internal market (Hertner;Miskimmon, 2015).
Former Finance Minister Schäuble also stated: “Without the common currency we would have different problems. We have in Germany the lowest youth unemployment in the whole of Europe. Our economic success is strongly linked to the export strength, on which we existentially depend (…)“ (Hertner;Miskimmon, 2015). But it was not easy to communicate this economic course at the domestic level either. After all, between 2009 and 2013, the coalition of Christian Democrats (CDU) and Liberals (FDP) faced the challenge of justifying the rescue packages in order to ensure the preservation of the euro, but at the same time, not to let Germany’s direct payments become too high, and thus not to overburden taxpayers (Hennessy, 2017; Hertner;Miskimmon, 2015).
Seen in this light, it also became clear that the euro crisis can also only be overcome if markets are convinced that the eurozone will last in the long term. As Greece, as described above, found it increasingly difficult to repay the existing debt by taking on new debt, other member states soon found themselves confronted with sovereign debt problems as well. To prevent a further rise in risk premiums on sovereign debt, Germany (together with France) had to show leadership in the euro crisis and demonstrate a perspective for the eurozone characterised by stability (Schwarzer, 2013). This took the form of institutional changes and reforms of the eurozone (Schwarzer, 2013; Schild, 2013).
New fiscal and economic governance rules
To deal with the sovereign debt crisis, the euro zone member states have agreed since 2010 on a “combination of European rules and sanctions, national constitutional amendments and additional intergovernmental agreements“ (Hertner;Miskimmon, 2015). However, with regard to the introduction of a new fiscal and economic governance, the member states were not willing to give up their national sovereignty in favour of the EU (at least not on a large scale) (Hertner;Miskimmon, 2015).
In 2011, the SGP was revised under secondary law (the so-called “Six Pack“ reform) to give it more predictability in terms of economic and fiscal surveillance. The so-called “preventive arm“ of the SGP, aiming to make national deficits exceeding 3 per cent of GDP impossible, was revised (Delivorias, 2021). In addition, national budgetary and economic policies were henceforth monitored and coordinated within the framework of the European Semester (European Commission; EUR-Lex). 10 A German influence is discernible here. For Germany traditionally advocated, as already mentioned, not only strengthening the SGP, but also embedding fiscal surveillance in the EU within the framework of the European Semester. Thus, not only the national draft budget plans are analysed but also “extending multilateral surveillance to macro-economic imbalances, based on a score board of indicators“ (Schild, 2013).
Two years later, in 2013, the SGP was again improved by secondary legislation, the so-called “Two Pack“ reform, to strengthen economic coordination between member states (European Commission). Through the “Two Pack“ a new surveillance mechanism was launched in order to have an overview of the euro area member states’ compliance with the SPG provisions. In particular, this provides for the Commission and the Council to have a better monitoring of member states’ budgetary plans under the EDP (Delivorias, 2021).
The Fiscal Compact was enacted in early 2013 as part of the intergovernmental Treaty on Stability, Coordination and Governance in the Economic and Monetary Union (TSCG) 11 and concerned the expected implementation into national law of the balanced budget “golden rule” by the member states (this earmarks a lower limit on the structural deficit of 0.5 % of GDP) (Degner;Leuffen, 2018; EUR-Lex; European Central Bank). Thus, the introduction of the Fiscal Compact has increased the weight of fiscal discipline compliance at the national level (Lane, 2012). However, external sanctions and surveillance are still available if the fiscal rules are not respected (preventive and corrective arm of the SGP) (Lane, 2012).
Fiscal emergency mechanism for the eurozone
In May 2010, two weeks after the issuing of the first financial aid package to Greece, the European Financial Stabilisation Facility (EFSF) was established (Degner;Leuffen, 2018). The EFSF was agreed as the third financial rescue package (after the lending facility for Greece in early May and the European Financial Stabilisation Mechanism (EFSM) for 60 billion euros to support non-Euro area countries). The aim of the EFSF was to provide loans totalling around 440 billion euros to eurozone members, excluding Greece. This pot was complemented by an IMF option of 250 billion euros. The decision to create the EFSM and the EFSF was taken by ECOFIN on 8 and 9 May 2010 (Birbeck, 2010). The Bundestag passed the government’s bill on 21 May 2010 for Germany‘s participation in the EFSF (Degner;Leuffen, 2018). Granting direct loans from the bailout funds was a big step from a German perspective. For, as explained above, creditor countries (like Germany) view such mechanisms traditionally very critically, as politicians in distressed countries could be enticed to “postpone or avoid tough fiscal and structural reform decisions“ (Lane, 2012). According to reports, the president of France, Nicolas Sarkozy, had put pressure on Merkel to leave the euro if Germany did not agree to the EFSF (Degner;Leuffen, 2018). In November 2010, Ireland was the first country to request funding from the EFSF. In June 2011, German Chancellor Merkel agreed to increase the capital of the EFSF, against the background that Ireland and Portugal were close to no longer being able to access the capital markets. (Degner;Leuffen, 2018; Hennessy, 2017).
The Treaty establishing the European Stability Mechanism (ESM) entered into force in September 2012. The ESM, successor to the EFSF, is a supranational mechanism created intergovernmentally through an international treaty. Under the ESM, a “rigorous analysis“ was to be carried out to determine whether the debt of the country in distress is feasible (Eichengreen, 2012). “Where it determines that the position is not sustainable, it will then declare that those debts have to be restructured. Where the problem is, instead, simply one of delayed adjustment and the sovereign needs temporary assistance, the ESM will provide a bridge loan, subject to conditions, presumably in conjunction with the International Monetary Fund (IMF) which spearheaded the negotiation of conditionality (…)“ (Eichengreen, 2012). According to Degner and Leuffen (2018), Germany participated in the negotiations with the other eurozone member states for the ESM (as well the EFSF before) so that these states would agree to the reforms of the new EU fiscal governance architecture (in particular to the ratification of the Fiscal Compact) (Degner;Leuffen, 2018). The government of Germany took a rather hard line in the negotiations on the ESM. The volume of permissible loans was to be 500 billion euros. This volume was to come from guarantees of the participating states, paid capital as well as that based on penalties for breaking the SGP rules (Degner;Leuffen, 2018).
The German government (successfully) resisted the introduction of so-called Eurobonds as a surrogate for the ESM (Degner;Leuffen, 2018). This concerned the mutualization of debts in the sense of joint liability of eurozone states for each other’s debts (Steinberg;Vermeiren, 2016). The creation of Eurobonds was ruled out by Chancellor Merkel already in June 2012, when she said that “there would be no full debt sharing ‘as long as I live’“ (Schild, 2013).
Germany undoubtedly had a central role in European monetary integration. Also, in the euro crisis in particular between 2010 and 2012, Chancellor Angela Merkel ultimately demonstrated a political leadership tandem with France. However, this political responsibility to prevent a break-up of the eurozone was not present from the outset of the sovereign debt crisis in Greece in late 2009/early 2010. At that time, the German government strictly adhered to its basic principles within the EMU: strict price stability guaranteed by an independent ECB; furthermore, strict adherence to fiscal rules in the eurozone and under no circumstances direct financial support to member states in distress. The reasons for Merkel’s approach are primarily historical. In the course of the construction of the EMU, Germany strongly advocated strong adherence to the fiscal rules and corresponding monitoring (within the framework of the SGP). Accordingly, the eurozone member states should have strictly complied to these rules.
However, Merkel realized over time, as Greece threatened to be cut off from the capital markets, that the existing design of the EMU was not sufficiently robust for such a sovereign debt (as well as banking) crisis. Germany eventually agreed, partly after tough negotiations, to the EU’s newly established bailout capacities to provide bilateral loans to Greece (and subsequently other member states). Furthermore, a stricter and (hoped for) more effective control and coordination of fiscal and economic policies in the eurozone member states was introduced. This should in particular prevent the growth of excessive national deficits and government debt.
The reasons for Merkel’s change of course are that she realized that the future of the euro is closely linked to that of the EU as a whole. Not only Germany has benefited greatly from the introduction of the euro (as well as the internal market), but a break-up would also, therefore, have had enormous costs for the country. Likewise, Germany had to step forward as a driving force (together with France) in the euro crisis. Both countries have been primarily committed to the introduction of a common monetary union for the past decades. Now the two countries also had to demonstrate political crisis management during the sovereign debt and banking crisis.
However, the reform steps during the sovereign debt crisis were undoubtedly important, but they came relatively late after the outbreak of the sovereign debt crisis in Greece. During this time, it was also not apparent that Germany would abandon one of its premises, a single fiscal union allowing direct fiscal payments to member states. In principle, this premise has neither been changed during the COVID-19 crisis (although, as mentioned, the Recovery and Resilience Facility (RRF) as part of the EU’s recovery plan “Next Generation EU“ was introduced, allowing loans and direct guarantees to distressed member states).
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 Lane (2012, 50) makes the claim that “the sovereign debt crisis (…) (was, note) deeply intertwined with the banking crisis and macroeconomic imbalances that afflict the euro area“.
 The Common Agricultural Policy and cooperation between Germany and France could also have been affected.
 The concrete convergence criteria are the following: For price stability: “A price performance that is sustainable and average inflation not more than 1.5 percentage points above the rate of the three best performing Member States“; for sound and sustainable public finances: “Not under excessive deficit procedure at the time of examination“; for durability of convergence: “Not more than 2 percentage points above the rate of the three best performing Member States in terms of price stability“; for exchange rate stability: “Participation in ERM II for at least 2 years without severe tensions, in particular without devaluing against the euro“.
 See also Maurice Obstfeld, “ Finance at Center Stage: Some Lessons of the Euro Crisis“, 28: “Regarding national fiscal policies, the Maastricht Treaty established potential penalties (culminating in fines) for member states that persistently, and after Commission notification, depart from the maximum reference values for public deficits. (…) The EU clarified implementation of the EDP (Excessive Deficit Procedure, note) in 1997 through the stability and growth pact (SGP).“
 Germany is one of the exceptions among countries when it last broke the expenditure rule by 0.1 % in 2013.
 Article 121 TFEU reads as following: “1. Member States shall regard their economic policies as a matter of common concern and shall coordinate them within the Council, in accordance with the provisions of Article 120. 2. The Council shall, on a recommendation from the Commission, formulate a draft for the broad guidelines of the economic policies of the Member States and of the Union, and shall report its findings to the European Council. The European Council shall, acting on the basis of the report from the Council, discuss a conclusion on the broad guidelines of the economic policies of the Member States and of the Union. On the basis of this conclusion, the Council shall adopt a recommendation setting out these broad guidelines.“
 Note: The primary EU law forms the basis for the SPG that is comprised of “Articles 121 (multilateral surveillance) and 126 (excessive deficit procedure) of the TFEU and Protocol No 12 on the excessive deficit procedure“. Moreover, today, the SGP is comprised of three factors: First, the 1997 Regulation on the strengthening of the surveillance of budgetary positions and the surveillance and coordination of economic policies (so-called “preventive arm”). Second, the 1997 Regulation on speeding up and clarifying the implementation of the excessive deficit procedure (so-called “corrective arm”). Third, a political commitment by all actors within the framework of the SGP (Council, Commission, member states) to implement in time the “budget surveillance process“.
 The author argues: “This concern remains particularly strong in Germany, which shoulders 27 percent of the capital and guarantees in the rescue mechanisms, and which has proposed a number of reforms since it agreed to the first bailout package in the spring of 2010.“
 For a description of the European Semester, see Barry Eichengreen, “European Monetary Integration with Benefit of Hindsight“, Journal of Common Market Studies, Vol. 50, No. S1. (2012), p. 128: Under the European Semester, national budgets are to be synchronised through Commission recommendations and corresponding budgetary policies.
 The treaty was concluded between the 25 member states, excluded the United Kingdom and the Czech Republic.
- More specifically, the “Next Generation EU“ recovery instrument includes a total of 750 billion euros in grants, loans, and additional funding (along with funds of the next long-term EU budget 2021-2027 of around 1.1 billion euros). Part of the “Next Generation EU“ recovery fund is the Recovery and Resilience Facility (RRF) which was provisionally agreed upon at the end of 2020 by the German presidency of the Council and the European Parliament’s negotiators. The RRF provides 723.8 billion euros (in 2020 prices) in loans (385.8 billion euros) and grants (338 billion euros) to EU members states to support national reforms and investments. [>]
- Lane (2012, 50) makes the claim that “the sovereign debt crisis (…) (was, note) deeply intertwined with the banking crisis and macroeconomic imbalances that afflict the euro area“. [>]
- The Common Agricultural Policy and cooperation between Germany and France could also have been affected. [>]
- The concrete convergence criteria are the following: For price stability: “A price performance that is sustainable and average inflation not more than 1.5 percentage points above the rate of the three best performing Member States“; for sound and sustainable public finances: “Not under excessive deficit procedure at the time of examination“; for durability of convergence: “Not more than 2 percentage points above the rate of the three best performing Member States in terms of price stability“; for exchange rate stability: “Participation in ERM II for at least 2 years without severe tensions, in particular without devaluing against the euro“. [>]
- See also Maurice Obstfeld, “ Finance at Center Stage: Some Lessons of the Euro Crisis“, 28: “Regarding national fiscal policies, the Maastricht Treaty established potential penalties (culminating in fines) for member states that persistently, and after Commission notification, depart from the maximum reference values for public deficits. (…) The EU clarified implementation of the EDP (Excessive Deficit Procedure, note) in 1997 through the stability and growth pact (SGP).“ [>]
- Germany is one of the exceptions among countries when it last broke the expenditure rule by 0.1 % in 2013. [>]
- Article 121 TFEU reads as following: “1. Member States shall regard their economic policies as a matter of common concern and shall coordinate them within the Council, in accordance with the provisions of Article 120. 2. The Council shall, on a recommendation from the Commission, formulate a draft for the broad guidelines of the economic policies of the Member States and of the Union, and shall report its findings to the European Council. The European Council shall, acting on the basis of the report from the Council, discuss a conclusion on the broad guidelines of the economic policies of the Member States and of the Union. On the basis of this conclusion, the Council shall adopt a recommendation setting out these broad guidelines.“ [>]
- Note: The primary EU law forms the basis for the SPG that is comprised of “Articles 121 (multilateral surveillance) and 126 (excessive deficit procedure) of the TFEU and Protocol No 12 on the excessive deficit procedure“. Moreover, today, the SGP is comprised of three factors: First, the 1997 Regulation on the strengthening of the surveillance of budgetary positions and the surveillance and coordination of economic policies (so-called “preventive arm”). Second, the 1997 Regulation on speeding up and clarifying the implementation of the excessive deficit procedure (so-called “corrective arm”). Third, a political commitment by all actors within the framework of the SGP (Council, Commission, member states) to implement in time the “budget surveillance process“. [>]
- The author argues: “This concern remains particularly strong in Germany, which shoulders 27 percent of the capital and guarantees in the rescue mechanisms, and which has proposed a number of reforms since it agreed to the first bailout package in the spring of 2010.“ [>]
- For a description of the European Semester, see Barry Eichengreen, “European Monetary Integration with Benefit of Hindsight“, Journal of Common Market Studies, Vol. 50, No. S1. (2012), p. 128: Under the European Semester, national budgets are to be synchronised through Commission recommendations and corresponding budgetary policies. [>]
- The treaty was concluded between the 25 member states, excluded the United Kingdom and the Czech Republic. [>]
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