The Merkel effect

Germany must now rise above its own narrow interests

For Angela Merkel, Sunday's poll results may have been "super" but the 16 countries that share the euro with Germany and emerging markets like India may have reason to be worried. Two messages can be read from results that gave Ms Merkel's conservative Christian Democratic Union (CDU) a better-than-expected 42 per cent of the vote and all but annihilated her coalition partners, the pro-business Free Democrats. One, that this is a vote of confidence among Germans in her stewardship of the euro zone crisis with her focus on austerity packages for the economies most impacted by the 2011 debt crisis. Two, the Germans are looking for "strong" government to address their own domestic issues of low wages, crumbling infrastructure and low growth. Both messages are out of sync with the rest of the euro zone, implying a growing distance with Germany, ironically the biggest votary of and gainer from the euro. Germans want money spent at home, not lent to struggling euro zone partners. So, austerity for the rest of Europe may have been popular in Germany, but its imposition has caused social unrest, hardship and political upheaval in every debt crisis-hit country.

Europe's recovery is both fragile and skewed. For one, it has been led by Germany (which expanded 0.7 per cent), the euro zone's largest economy, although a surprise result from Portugal (1.1 per cent) and a deceleration in the Spanish slowdown also helped. But full-year predictions still point to a contraction - albeit 0.4 per cent instead of the original 0.6 per cent. And, despite the growth, employment in the second quarter actually shrank one per cent year on year. Significantly, expansion in the second quarter was partly the result of European Central Bank Chairman Mario Draghi's creative bond-buying programme, which relaxed credit conditions in those countries most impacted by the debt crisis and allowed private companies to expand.

The importance of this credit-led recovery cannot be overemphasised for the world economy. As Daniel Gros argued recently, the swing in the euro zone's current account from a $100-billion deficit to a $300-billion surplus was largely the result of shrinking internal demand imposed by austerity. As a result, imports from a market that accounts for a fifth of the world's economy all but stagnated over the past five years, contributing to the widening current account deficits in emerging markets. One index: India's merchandise exports to the region declined from $42.7 billion in 2011 to $37.8 billion in 2012 and its share shrank from nearly 14 per cent to roughly 13 per cent. It is uncertain whether Ms Merkel will be in a position to respond to these signals or resist the contrarian pulls between public opinion in Germany and the rest of Europe as she searches for a new coalition partner to gain the requisite parliamentary majority. If anything, her challenge as she takes office for a third term will be to rise above narrow national interests.