Eurozone divided
As the Covid emergency subsides, Germany’s fury at southern Europe risks reigniting pre-pandemic tensions
The European Union’s fragile solidarity over Covid is at risk of collapse as German anger at high inflation and massive deficits in southern Europe exposes fault lines which almost destroyed the bloc a decade ago, experts have warned.
Nations pulled together and shared resources when the pandemic struck, but the Organisation for Economic Co-operation and Development (OECD) believes that as recovery stutters and the European Central Bank continues its money printing spree, “the crisis could leave scars and reopen old wounds”.
Rows are already breaking out. EU funding is an increasingly fraught topic in Germany’s election campaign. It raises the prospect of a return to the cataclysmic spats during the eurozone crisis, when the German press perpetuated ugly stereotypes about southerners and politicians across the Mediterranean railed against the heavy financial hand of Berlin.
More worrying still, the Francogerman engine which has powered the bloc for years is beginning to stutter. Michel Barnier, the lead Brexit negotiator-turned French presidential candidate, vowed this week to push back “against the German influence which dominates” Brussels’ power structures. Meanwhile Angela Merkel, long the linchpin of eurozone stability, is preparing to bow out as German Chancellor after 17 years.
Analysts at the OECD, which represents rich countries, say there is once again a risk of a two-speed Europe where Germany and the north leave others in the dust. “A muted recovery would increase inequalities, fuelling discontent,” they say. Avoiding that requires heavy spending on green and digital sectors of the economy, the OECD says, which would help poorer areas catch up, but risks richer and less-indebted economies shelling out.
“Some regions have been more affected by the pandemic than others,” says the OECD. “For example, southern EU economies, partly due to their higher reliance on tourism and on very small firms, have recorded the largest GDP falls in 2020.”
Germany suffered a relatively small recession and borrowed only modestly.
This raises the prospect of those countries which struggled after the financial crisis – such as Greece, Italy and Spain – requiring more resources from northern economies, despite only mixed progress in cleaning up their finances after the credit crunch.
The OECD cautions that the use of these funds must avoid the bad behaviour which has marred EU projects in the past. “The deployment of EU funds … must not be marred by corruption and fraud,” says the OECD.
Post-covid, eurozone debts now total more than 100pc of GDP – risking the rage of prudent Germans who face calls for jointly backed EU borrowing to fund spending on the Med.
The pandemic has blown past efforts to reduce debts out of the water. Next year the OECD predicts Italy’s debt will stand at 157pc of GDP, up from 135pc before Covid. Greece’s predicament is even worse: its debts surged above 200pc of GDP in the pandemic and even next year will be above 190pc.
Rules used to insist deficits stayed below 3pc of GDP. Most countries broke that in 2020 and will do so again in 2021. Seven, including Italy, France and Spain, are forecast to repeat this feat next year too.
These extreme financial holes might look sustainable because interest rates are so low and the ECB has been soaking up extra bonds through its usual quantitative easing programme and the Pandemic Emergency Purchase Programme (PEPP), which could buy €1.85trillion (£1.58trillion) of debts. But rising inflation has made hawks twitchy about the ECB’S support. They chalked up a modest victory this week as the ECB agreed to trim the pace of PEPP.
Anger in Germany itself is already bubbling up. Inflation is close to 4pc, almost double the ECB’S target of 2pc, and the country’s savers are being hammered by ultra-low interest rates.
Christine Lagarde, the ECB president, insists the jump should be temporary. But the longer it goes on, the more German hawks fear wages and prices rising in a self-reinforcing cycle.
Moves towards bigger Eu-wide spending – potentially useful, the OECD says, to secure a widespread recovery – is also raising tensions, particularly in Germany’s election campaign. In an interview with T-online, Paul Ziemiak, of Angela Merkel’s CDU party, warned: “German taxpayers, pensioners and savers [could end up] liable for the debts of other countries in the future.”
It amounts to a dangerous moment for the EU. “The largest challenges from the pandemic crisis might still lie ahead,” warns the OECD.