When German Rates Rise, Europe Listens
As European public opinion shifts on unity, the dominance of the deutsche mark fuels controversy
IT'S a cutting irony. Germany would like to lose itself in the crowd of European unity and be just one among equals. Yet whenever its mighty central bank breathes, it exhales a blast of interest-rate hikes that knock over its European partners - reminding everyone of Germany's singular financial strength.
The recent decision by the Bundesbank to raise its discount rate from 8 to 8.75 percent - the highest since 1931 - was not as drastic as it could have been. The bank left untouched the far more influential Lombard rate at 9.75 percent.
Still, monetary relations between Germany and its partners are so sensitive that even the limited move prompted international criticism of the Bundesbank. Although the interest-rate increase was intended to have only domestic impact, Italy, the Netherlands, and Belgium also raised their rates.
Remarkably, even German economists - usually staunch defenders of the Bundesbank - have joined the chorus of critics.
"I don't understand why [the Bundesbank] is not aware of the situation Germany's partner countries are in and the situation Germans are in," says Norbert Walter, chief economist for Deutsche Bank, the nation's largest bank. Europe, says Mr. Walter, did not need last week's "further turn of the screw."
German Chancellor Helmut Kohl is also reportedly unhappy with the Bundesbank. He "personally advised" the Bundesbank against higher interest rates, says Gro Harlem Brundtland, Norway's prime minister, who received Mr. Kohl during a recent visit.
Much of the European Community is in an economic slump and wants lower interest rates at home to encourage investment and economic growth. The EC countries are tired of more than four years of steadily increasing interest rates in Germany, which, because of Germany's importance in the financial markets, has put pressure on them to keep their interest rates high.
The German economy is also slowing markedly, and economists worry that the record-high interest rates being set in Frankfurt hinder investment in east Germany. While the Association of German Industry generally supported the Bundesbank's decision, it also warned of the risk it poses for economic growth. Germany's gross national product in the first quarter of this year grew at an annual rate of only 1.8 percent versus a robust 4.5 percent a year ago. As if reunification never happened
Mr. Walter says the lifting of the Iron Curtain means a new monetary scene for Germany. But the Bundesbank is acting as if reunification never happened and is setting targets that are no longer realistic.
Its target of 3.5 to 5.5 percent annual growth for the money supply is way off, Walter argues. He says the amount of marks in circulation should grow by at least 6 percent, because dilapidated east Germany simply requires more liquidity for rebuilding than west Germany and because the deutsche mark is meanwhile being widely used as a second currency in East Europe.
But this year's actual rate of growth for the money supply, a heady 9 percent, is beyond even Walter's suggested target. The ballooning growth, and the inflation which follows, were what prompted the Bundesbank to apply the brakes last week.
The Bundesbank's traditional argument is: Europe benefits if the German mark is strong and stable and if inflation is under control. At the moment, at over 4 percent, German inflation is considered high and the Bundesbank is actively fighting it - and supporting the mark - through its policy of high interest rates. Conservative defense
The conservative press in Germany has staunchly defended the stand taken by the independent Bundesbank in the face of international pressure. "It's a good thing that there is a Bundesbank - and that there is one for as long as possible," writes the daily Die Welt, indirectly jabbing at the European Central Bank envisioned in the Maastricht Treaty.
Countries that are joined in the European Monetary System (EMS), in which currencies are linked by a fixed rate of exchange, complain that the Bundesbank leaves them little room for maneuver. Because the monetary system is de facto anchored by the deutsche mark, decisions by the Bundesbank affect all the currencies linked to the mark. To stay within the allowed currency fluctuations of the EMS, these countries can either maintain high interest rates like the Bundesbank's or devalue their currencies and s eek a currency realignment in the EMS. Otherwise, they can leave the fixed-exchange rate mechanism altogether.
For most EMS members, all of these options are unpalatable. London, for instance, wants lower interest rates to stimulate the British economy. And governments don't like devaluations because they are inflationary and show weakness.
A realignment of the EMS would be seen as a setback on the road to currency union as envisioned by the Maastricht Treaty. Currencies in Europe are supposed to be merging, not flying apart. And any country leaving the EMS would be considered on the outs in Europe, not interested in currency union.
Alfred Boss, an economist at the Kiel Institute for World Economy, says the Bundesbank is not to blame for these countries' dilemma. Rather, he says, it's their own fault for agreeing to join the fixed exchange rate of the EMS in the first place. "If you don't want to leave [the EMS], you have to suffer the Bundesbank policy. That's the simple economic fact." It was not long ago, Mr. Boss says, that Germany's partners were grateful for the Bundesbank, because it helped limit inflation in their countries . Now Germany has to deal with its own inflation, he says, and the others will have to wait until the job is done.