I have recently been asked a few questions about the role of German current account surpluses in the problems encountered in Europe and in particular the eurozone. Below are the questions and the answers. Is the German current account surplus sustainable? Yes and no. The German current account surplus is not sustainable in the long-run. It has been too large for too long – reflecting the substantial and one-sided net delivery of real goods and services, produced through the work of German businesses and individuals, to the rest of the world, without the Germans in aggregate receiving equal compensation in real goods and services from the world. It is indeed surprising that Germany has collectively been willing to deliver abroad against credit for decades, accepting promises to pay from increasingly and unsustainably indebted borrowers in return for the delivery of the valuable fruits of their labour. Perhaps yet another of the many ingenious ways through which Germans insist on making up for their sins? The gold that they had earned – prudently – from their exports in the early post-war era is held abroad without the prospect of ever getting repatriated fully. But the majority of payments has been in the form of promises to pay in any case.
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professorwerner writes professorwerner 1970-01-01 00:00:00
I have recently been asked a few questions about the role of German current account surpluses in the problems encountered in Europe and in particular the eurozone. Below are the questions and the answers.
Is the German current account surplus sustainable?
Yes and no. The German current account surplus is not sustainable in the long-run. It has been too large for too long – reflecting the substantial and one-sided net delivery of real goods and services, produced through the work of German businesses and individuals, to the rest of the world, without the Germans in aggregate receiving equal compensation in real goods and services from the world. It is indeed surprising that Germany has collectively been willing to deliver abroad against credit for decades, accepting promises to pay from increasingly and unsustainably indebted borrowers in return for the delivery of the valuable fruits of their labour. Perhaps yet another of the many ingenious ways through which Germans insist on making up for their sins? The gold that they had earned – prudently – from their exports in the early post-war era is held abroad without the prospect of ever getting repatriated fully. But the majority of payments has been in the form of promises to pay in any case. Concerning such credit granted by Germany, there is little to show for: Germany is for instance not even allowed to receive delivery of US Treasuries that it may have purchased as a result of the dollars earned through its current account surplus: these Treasuries have to be held in custody by the Federal Reserve Bank of New York, a privately owned bank: A promise on a promise. At the same time, German influence over the pyramid structure of such promises has been declining rapidly since the abolition of the German currency and introduction of the euro, controlled by an unaccountable supranational international agency that cannot be influenced by any democratic assembly in the eurozone. As a result, this structure of one-sided outflows of real goods and services from Germany is likely to persist in the short and medium-term.
This structurally entrenched surplus is ultimately assured by the political situation: International debtors to creditor Germany can remain confident of their unlimited credit card account in Germany by the practical inability of Germans to change their predicament. Germany has since 1945 not been master of its political and economic destiny. There has not been a peace treaty over 70 years after the end of the second world war. Germany remains an enemy nation in the UN Charter, and the occupation statutes remain in place despite the 4+2 Treaty with the Allied Powers of 1990. With a suspended constitution (and only a temporary ‘Basic Law’ in its place), the US has in practice continued to call the shots in Germany. Unlike in other European nations, a referendum has never been allowed in Germany on any important question, such as any connected to the drive towards ‚ever closer European union‘, including the abolition of the then de-facto European currency (the D-Mark) and its replacement by the euro. While the German population has increasingly been waking up to the legal facts of their status – or rather lack thereof – a massive and costly diversion (in the form of a transfer into Germany of a large foreign population – in direct contravention to the Haag and Geneva conventions) has left public debate muted on such fundamental issues. It may yet contribute to reducing the current account surplus by weakening Germany’s export prowess. The ECB’s handling of the aftermath of the credit bubbles that its policies had created in Ireland, Portugal, Spain and Greece during 2004-8 further demonstrates that ECB policies have not been in the interests of Germany – and neither have they been in the interests of Ireland, Portugal, Spain and Greece. They have, however, played into the hands of those working towards the centralisation of power in the hands of unelected bureaucrats in the name of ‘ever closer union’.
How does the German current account surplus affect the balance between investments and savings?
A current account surplus can by definition be called an excess of savings over investment. In this case, this is just restating the problem identified above, namely that the rest of the world is not delivering valued goods and services to Germany equal to German exports of such. This renders the Germans creditors to the rest of the world, which can be defined and verbally reformulated as being ‘excess savers’. Even the domestic investment-savings balance is an ex-post accounting identity that says little about the causal factors behind economic growth or current account balances. Business investment is a function of bank credit creation for such investments. Like all markets, the market for credit is rationed, and in this case the dominant short side is the supply of credit (Werner, 2005). That is decided by banks, the creators and allocators of about 97% of the money supply (through their extension of credit, see Werner, 1997, 2015). Banks always ration credit, as it does not make sense to raise interest rates to the high levels that would equilibrate the almost unlimited demand for ready purchasing power with the supply created by banks. The virtually unlimited demand for money and credit is not least ensured by the fact that banks create the principal of their loans, but not the interest. This means that borrowers have to out-compete each other in the search for money and credit to service their loans, ensuring a certain amount of bankruptcies. This is especially noticeable during times of nominal stagnation (which happens when bank credit for GDP transactions has stalled, as in the eurozone for the past six years or so). Since 2008 eurozone banks have been rationing credit more than usual: in the periphery countries, because the ECB-driven credit bubbles had burst, causing the predictable bad debt problems in the banking systems that have in turn rendered these banks highly risk averse, resulting in a protracted credit crunch. The problem could have been solved at one stroke and without any costs to the tax payer by the ECB and its national branches (the national central banks, see Werner, 2014), but the ECB chose to let these problems grow over time, resulting in fiscal cut-backs and large-scale unemployment.
Meanwhile, in Germany the vast majority of banks (the 1,500 small community banks accounting for about 70% of deposits and over 90% of SME lending) have not been affected by the 2008 financial crisis. As the big banks reduced lending sharply, they increased loan extension, ensuring that there was no recession in Germany. But bank credit for real economy investments has also been stagnating recently. This has been due firstly to the massive and disproportionate increase in bank regulation by the EU Commission and the ECB, which is crushing community banks due to sharply risen costs to manage the regulatory burdens; secondly, it has been due to the negative interest rate and flat yield curve policy of the ECB, which is good for the large, asset speculation-driven banks, but has drastically shrunk income of the majority of banks, which are small, local and normally lend for productive purposes, hence requiring a positive yield curve. They are getting hammered by the flat yield curve and the new ECB tax on banks called ‘negative interest rates’. These banks will get annihilated in the near term, if they do not follow the only avenue left to them by the ECB: a massive expansion in bank credit for non-GDP, namely property, transactions. Such bank credit is unsustainable and causes asset bubbles (see Werner, 2013). The property bubble which the ECB policy has indeed been creating in Germany will in turn result in a banking crisis that may well become the last nail in the coffin of the community banks, likely to cause them to disappear after all in the coming decade, if current ECB and EU polices are not reversed. Since the community banks are a main reason for the strength of the German Mittelstand SMEs – in turn the backbone of the 200 years of strong and stable German economic growth – this will in due course dissolve German current account surpluses. As the reader will have noticed, none of these momentous events unfolding before of our eyes has anything directly to do with the savings-investment balance, but all with the ECB’s quantity of bank credit policies.
Are German savers saving too much?
In a market economy, private sector decision-makers should be left to make their own decisions. These are usually the result of the policy environment created by central banks. It is thus inappropriate to speculate about whether the fault lies with savers. This is especially true when savings are not the cause of any problems in the eurozone. That role is played by the ECB’s quantity of bank credit policies. The tight credit policy has suppressed productive investment. Fortunately, there is an easy way out of the ECB’s straight-jacket of tight bank credit for the real economy: finance ministries, official debt management offices and Treasuries in the Eurozone can quickly and efficiently boost bank credit for GDP transactions by stopping the issuance of government bonds, and instead raising the funds for the public sector borrowing requirement from the banks in their respective countries (if they still have any) through entering into standard bank loan contracts (which are neither tradeable nor do they have to be marked to market; moreover they incur the attractively low prime rate in the bank credit market that has consistently remained below bond yields during the months of the sovereign debt crises; see Werner, 2014).
Yet, it could be argued that Germans have been contributing to the European mess, because they have failed to assert their rights as the sovereign of their nation, proclaiming a democratic constitution allowing for referenda and throwing off the yoke of foreign domination. It turns out, the EU was designed to prevent Germany from become a sovereign nation ever again. But a peaceful and prosperous Europe is more likely to be ensured if free and sovereign decisions are made in democratic fashion – such as via referenda – by informed people not manipulated from the outside. That idea is not popular in Brussels.
Richard A. Werner (1997). ‘Towards a New Monetary Paradigm: A Quantity Theorem of Disaggregated Credit, with Evidence from Japan’, Kredit und Kapital, vol. 30, no. 2, July 1997, pp. 276-309.
Richard A. Werner (2005). New Paradigm in Macroeconomics, Basingstoke: Palgrave Macmillan, 2005
Richard A. Werner (2013). Quantitative Easing and the Quantity Theory of Credit. Royal Economic Society Newsletter, July, pp. 20-22 http://www.res.org.uk/view/art5jul13features.html
Richard A. Werner (2014). Enhanced debt management: Solving the eurozone crisis by linking debt management with fiscal and monetary policy, Journal of International Money and Finance, 49, 443-469, http://www.sciencedirect.com/science/article/pii/S0261560614001132
Richard A. Werner (2015), A lost century in Economics: Three theories of banking and the conclusive evidence, International Review of Financial Analysis, in press, online: http://www.sciencedirect.com/science/article/pii/S1057521915001477