Angela Merkel sweeps in to save the euro zone

Martin Wolf: EU could shatter if it doesn’t rise to its many challenges

The EU was born out of catastrophe and has advanced through crisis. Today, it confronts threats on many fronts. If it fails to rise to these challenges, it might even shatter. Fortunately, Angela Merkel understands this. The German chancellor remains the trusted leader of the indispensable European country. By agreeing a radical new financial plan with French president Emmanuel Macron, she has transformed the EU's possibilities. It is another "whatever it takes" moment, this time from Europe's leading politicians, confirming that Germany and France will only let the EU fail if their electorates discard their elites, as the Americans and British have done.

But history has marked the peoples of these two countries too deeply for them to risk similarly infantile politics.

Remember the EU's history. The Coal and Steel Community and Economic Community were created in reaction to the second world war. The single market was a response to the economic malaise of the 1970s. The currency union was agreed in 1991 in reaction to German unification. The creation of the European Stability Mechanism and the transformation of the European Central Bank into a modern central bank were results of the euro zone financial crisis.

Now comes the economic disaster of Covid-19, with unprecedentedly rapid declines in output expected this year and an uncertain recovery ahead. Yet far more than this is threatening the EU. A nationalist US has turned against the very idea of EU integration. The UK has danced off into the mid-Atlantic. China and Russia have embarked on a “divide and rule” policy. Perhaps most important, the mishandled euro zone financial crisis divided member states and turned Italy, above all, towards euroscepticism. One poll indicates that in an “Italexit” referendum, 42 per cent of Italians would now vote to leave.


Covid-19 has hit EU members unequally, in terms of deaths and predicted economic effects. The consensus of forecasts is that Italy’s gross domestic product will shrink 11 per cent, against 7 per cent in Germany, this year. It is likely to be still worse. The ECB is prepared to act, to keep spreads on government debt manageable. But, with an astounding act of secession from the EU’s legal order, the German constitutional court has undermined the ECB’s credibility.

Dangerous background

It is only against this dangerous background that one can understand the proposal by the German and French leaders for a new €500 billion fund and a subsequent increase to €750 billion by the European Commission, in what it calls "Next Generation EU". As a response to the immediate crisis, this may not be decisive. But, in terms of the longer-term future of the EU, it is symbolically and practically transformative, if not the widely discussed "Hamilton moment". These two leaders plan to do whatever it takes to preserve the EU; it should, once again, be enough.

The EU is political will made institutional flesh. In 2012, I responded to widespread scepticism in US financial circles over the survival of the euro zone by noting that Alexis de Tocqueville, writing in the 1830s, doubted whether the US could survive secession by states. But the North turned out to have the needed will and might. Similarly, there is a tendency for outsiders to underestimate what the EU means to core members. This agreement is a reminder.

In the immediate future, the response to the economic crisis will mostly come from national fiscal policies, albeit backed by the ECB. But the latter, too, has to be buoyed up by the Franco-German proposal, which has now ended up in the commission’s new plan. The “frugal four” (the Netherlands, Austria, Denmark and Sweden) will try to stop this. One can expect them to fail.

The commission’s new fund consists of €440 billion in grants (a crucial element), €60 billion in guarantees and €250 billion in loans. Two-thirds of the grants are to be channelled via a “Recovery and Resilience Facility”. Funds would be raised in capital markets between 2021 and 2024, to be disbursed over several years. To put the €750 billion in context, it is close to 1.5 per cent of EU GDP over three years.

As Anatole Kaletsky of Gavekal has argued, the Franco-German proposal is far more significant than such relatively modest numbers suggest. It includes two innovations: the ability of the commission to borrow on its account and so create a new class of EU bonds; and the fact that the borrowing is to be financed by new European-wide taxes on carbon emissions or financial and digital transactions. The leverage on the tax revenue allowed by the ability to borrow could be huge. If, for example, the EU would float an irredeemable bond at 1 per cent (a conservative assumption), it could borrow €100 billion, forever, on €1 billion of annual revenue. That is a very big deal.

‘Hamilton’ moment

Yet it is not strictly-speaking a “Hamilton” moment, by which is meant the way Alexander Hamilton, first treasury secretary of the US, used the powers of the federal government to transfer the debts the states had incurred in the war of independence on to the federal balance sheet. In the EU’s case, this is not a plan to assume debt. Also, crucially, the EU does not have a federal political process. Budgetary decisions have to be taken by unanimity. Nevertheless, it is a big step forward symbolically, in that it demonstrates solidarity, and practically, in that it creates a new financial instrument to be funded by EU taxes.

Whatever it may not be, this is a Merkel moment. Once again, this ever-cautious politician has made a decisive move. The EU is embattled from without and within. Will this proposal be enough to resist these pressures? I hope so. The European idea was a response to destructive nationalism. It has to survive. – Copyright The Financial Times Limited 2020