The limits to German power in the Eurozone

The Elcano Royal Institute is a think-tank for international and strategic studies that analyses world events and trends from a Spanish, European and global perspective.

The Analyses of the Elcano Royal Institute (ARI)are short pieces - of around 3,000 words - on aspects of current international affairs considered to be of relevance to Spain, its foreign policy or its security. In broad terms ARIs are intended to have a predictive bearing on events.This paper challenges the view that Germany has become an uncontested hegemonic power in the post-crisis Eurozone. It shows that the trade and financial interdependence amongst Eurozone countries created by the Economic and Monetary Union (EMU) made the German government’s approach of deflecting the burden of adjustment onto the debtor countries self-defeating, preventing it from reforming the EMU in ways that simultaneously advanced all the domestic societal interests underpinning its creditor preferences. This strategy also encouraged deflationary pressures, which further weakened peripheral countries’ debt servicing capacity.

While these negative feedback loops put pressure on creditor states to accept some mutualisation of debt in a banking union, the German government could only minimise the exposure of the German taxpayer by allowing the ECB to adopt increasingly unconventional expansionary measures to stabilise sovereign bond markets and reduce deflationary pressures. In sum, a less orthodox ECB has been the price that the German government has so far been willing to pay for making EMU more sustainable. However, given the enormous sunk costs of European monetary integration for Germany, its government might be willing or forced to go beyond in the future.