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Tuesday, Nov. 6, 2012

Soros' advice to Germany: Lead or leave the eurozone

Special to The Japan Times

HONG KONG — George Soros became a legend in his own lifetime as "the Man who broke the Bank of England", making $1.1 billion by betting against the British pound in 1992 when it was forced to devalue and leave the European exchange rate mechanism, the forerunner to the creation of the euro.

His display of financial firepower was controversial: Nobel economist Paul Krugman accused Soros of helping trigger a financial crisis for fun and profit, and proposed calling such people "Soroi."

These days Soros has become more of a philosopher and philanthropist, giving away $8 billion to good causes in human rights, public health and education. In his new role he brings decades of understanding about economies, currencies and markets and the dangerous ways they dance with disaster.

He has become something of a guru and oracle warning of the dangers of the way the global economy is heading, and in this capacity caused a stir recently with an article in the New York Review of Books, which could be summed up in five pithy words of advice to Germany — Lead or leave the euro.

Since then the reaction from leaders of the eurozone has been to repeat the mantra that the euro is safe and to take some steps to safeguard it. Soros himself says in a preface to the Internet version of his article that the promise of Mario Draghi, the president of the European Central Bank, to buy unlimited quantities of government bonds of debtor countries of up to three years in maturity means that "the continued survival of the euro is assured."

But depending on how the politics plays out, these actions to preserve the euro could continue growing the seeds of destruction both of the currency and of the EU itself. Soros' underlying thesis is still sound, and his fears remain valid. He points out that the EU was the embodiment of an open society, a voluntary association of equal states that surrendered part of their sovereignty for the common good.

But the euro crisis has changed things and divided member countries "into two classes — creditors and debtors — with the creditors in charge, Germany foremost among them." Debtor countries have to pay substantial risk premiums for financing their government debt, which has pushed them into depression and puts them at a big competitive disadvantage that threatens to become permanent.

Soros says this was not a deliberate scheme but was a result of a series of policy mistakes when the euro was introduced. The most critical was that "the euro was an incomplete currency — it had a central bank, but did not have a treasury."

Financial markets did not realize the issue until the onset of the Greek crisis — that without the right to print their own money, countries risked default. When it was realized, Germany could have stepped in, but Berlin was reluctant to take on new liabilities, so did the minimum necessary.

The critical moment came when German Chancellor Angela Merkel in the aftermath of the Lehman Brothers crisis declared that the guarantee that no other systematically important financial institution would be allowed to fail "should be given by each country acting separately, not by the European Union acting jointly. That was the first step in a process of disintegration that is now threatening to destroy the European Union," writes Soros.

The markets then understood that not all government bonds were created equally, and weak countries were forced to pay penal rates. Germany self-righteously claimed that other countries should do as Germany did after its crisis following reunification, basically an austerity package and structural reforms.

But as Soros points out conditions then were easier and the world was growing and Germany benefitted from consumption and housing booms in the rest of Europe. But today: "Fiscal austerity in Europe is exacerbating a global trend and pushing Europe into a deflationary debt trap."

Soros offers a two-pronged suggestion: "The best course of action is to persuade Germany to choose between becoming a more benevolent hegemon, or leading nation, or leaving the euro. In other words, Germany must lead or leave."

The role of hegemon would involve Berlin in establishing a level playing field between debtor and creditor companies and aiming at nominal growth of 5 percent a year, suggests Soros, "in other words allowing Europe to grow its way out of excessive indebtedness."

If Germany is not prepared to lead, then it should leave the euro, which would be less costly and more competitive for everyone than the slow squeeze of countries out of the currency and the lingering death of the European dream, with political bitterness that could have devastating consequences as bad as any murderous divorce.

The solution of Soros is simple and even sensible, though he underestimates the political fallout that would follow even if Germany could be persuaded to leave the euro. Sadly, it is even harder to see Berlin exercising the generous option and there seems to be no leader inside or outside Europe who can urge Berlin to reconsider and live up to the hopes of Europe, from which Germany has greatly benefitted.

The Draghi option of buying debtor countries' bonds requires the affected countries to go through the mill of agreement with the European Stability Facility and putting themselves under the supervision of the Troika (the executive committee of the EU, the European Central Bank and the International Monetary Fund). You can feel the whiff of austerity just mentioning the Troika.

Austerity on its own is not only not working, but is a political and economic millstone round the necks of the victim countries and of Europe as a whole. Aiming for growth would give hope to millions of Europeans who are losing their jobs and seeing benefits cut as governments of indebted countries are forced to follow the German prescription. It would also promote growth in Japan, China and Asia, which are also running out of economic steam as the European economy slows and stutters and comes to a halt.

Successful growth could also help revive the European ideal, after which it might be possible to create a full European fiscal and currency union. Otherwise, austerity will suffocate and kill Europe.

Kevin Rafferty is a veteran journalist based in Hong Kong.

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