Germany’s Angela Merkel is resolute as Europe’s debt crisis grows

Reporting from Berlin —  With the European debt crisis lapping up against France and threatening to crumple the continent’s currency system, German Chancellor Angela Merkel finds herself increasingly standing alone at the center of the intensifying drama that begs for more help from Germany.

But she hasn’t budged — yet.

Under intense domestic pressure, Merkel has continued to use the power of Europe’s strongest economy to insist that her beleaguered partners accept a new financial order and, indirectly, a new political reality.

That now includes France, which, though regarded as a partner with Germany in managing the crisis, is moving more along the lines of its southern neighbors for political and economic reasons.

France, with a sluggish economy, also is feeling a squeeze in borrowing costs from bond investors who are beginning to differentiate it more clearly from Germany’s stronger economy.

More important, French President Nicolas Sarkozy, facing an election next year, has split with Merkel on a crucial factor in the debt crisis — the role of the European Central Bank.

Joining troubled Spain and Britain, among others, France has called for the ECB to act as a lender of last resort and pump massive infusions of capital into the tottering financial system, much as the Federal Reserve did during the U.S. financial crisis in 2008.

Many economists see the central bank’s intervention as the only way to put out the flames of the 2-year-old debt crisis. But Merkel has steadfastly resisted such transfusions, hewing close to sentiments at home that such action will bear a heavy cost on Germany and possibly stir hyperinflation.

“There is a problem about the Franco-German” alliance, said Jean-Pierre Lehmann, professor of international political economy and founding director of the business advocate Evian Group in Lausanne, Switzerland.

The divergence between France and Germany on economic issues is powerful, he said, and they have different leadership styles and cultures.

Germany’s economy is running a trade surplus with China, a feat that has long eluded the U.S. and other countries. Germany also is dominated by small and medium-size private companies, and it invests heavily in research and development.

France’s economy, on the other hand, doesn’t have Germany’s strengths, Leh?mann said, and France will be pressured to push through the kinds of reforms that it and Germany have pressed their southern neighbors to enact.

Nervous investors have demanded higher interest rates on French government bonds since early October. Moody’s Investors Service warned France on Monday that a continuing rise in its borrowing costs could put the country’s AAA rating at greater risk of a downgrade.

“Ultimately I think the French will give in and will go through a period of turbulence,” Lehmann said.

That leaves Merkel largely by herself as she undertakes one of the biggest gambles in recent European history.

In pushing for more European integration in the way that countries manage their spending and run their economies, Merkel believes that Europe could emerge economically stronger and politically more united.

But if she fails, or miscalculates how much pressure the financial system — or the political systems in countries facing years of painful austerity — can withstand, the result could be a crisis that spreads throughout the global economy.

The sudden and significant step-up in Germany’s power concerns Constanze Stelzenmuller, a senior fellow at the German Marshall Fund in Berlin.

It’s already stirred an anti-German backlash, and not just on the streets of Greece. Across the continent, people are saying “Europe speaks German now,” Stelzenmuller said.

Yet the rise in power is “not just about calling the shots,” she said, “but the willingness and ability to persuade.”

Stelzenmuller said she sees Germany eventually acceding to calls for the European Central Bank to issue Eurobonds or take other monetary policy actions to relieve financial pressures that are continuing to mount on European governments.

On Friday, the new head of the ECB seemed to reject appeals that the institution intervene and said instead that national governments should step up their efforts to address economic deficiencies.

Germany stands as the only major economy in Europe that is expanding at a healthy clip. Its economy this year is expected to grow twice as fast as the 17-nation Eurozone average, and unemployment, at 7%, is lower than it was at the start of the global downturn three years ago.

Many analysts said these are byproducts of the nation’s manufacturing prowess and reforms it undertook nearly a decade ago, when it raised the pension retirement age from 60 to 65 — it has since gone up to 67 — and overhauled unemployment benefits and labor rules to give employers more flexibility to hire and fire workers.

But Germany has been a big beneficiary of the region’s economic integration and unified currency. Its economy is supported by substantial exports to its European neighbors, and a recession for the region would throw a wrench into Germany’s economic machine.

For that reason, Merkel has said what’s needed in addressing the debt crisis is “not less Europe, but more.” And she has spoken of the need to revise the Eurozone members’ treaty, presumably to create greater central power to monitor and enforce more fiscal discipline and transparency among countries.

At the same time, Merkel, like other national leaders, has continued to straddle the line to appease her fragile coalition in government, counterbalancing her belief that more European integration would be good for Germany with strong language that European debt shouldn’t be socialized.

She has repeatedly said that the central bank is no panacea to Europe’s problems.

Most German voters are unwilling to see their hard-earned wealth go to bail out what they see as less disciplined and less industrious countries.

“Why should we pay for Greece and Italy?” asked a 55-year-old school administration employee near Munich who would give only his first name, Maximilian.

He said he had no credit cards, only a bank debit card. Germany could afford to help its neighbors now, he said, but he expressed concern that he and other Germans would later pay the price through higher inflation.

At the moment, he said, he enjoyed a 3.5% interest rate on his 30-year home mortgage and 1.9% rate on his car.

“It’s the mentality,” he said of Germans’ fears of hyperinflation.

Many Germans had perceived Merkel as slow and indecisive. But more recently her stature has grown domestically as she has communicated more forcefully the gravity of the Eurozone situation and the reason she has been driving as hard a bargain as possible with other nations.

The tough tack has brought new governments in Greece and Italy run by economists, and has yielded promises of more sustainable public policies — signs that Merkel’s wait-it-out strategy may be working and may continue, at least, for a while.

“The more time passes, the more impressed I am at how she’s done this,” said Christoph Boehmer, a managing director of medical device maker Biotronik in Berlin, who generally hasn’t been a supporter of Merkel’s. “She’s either had a grand vision all along or is putting it together.”

Yet sound as such a program may seem in purely economic terms, it carries a heavy price for Germany’s much weaker neighbors, at least in the near term: little or no growth, higher unemployment, reduced government service and welfare systems.

And that raises the risk that a backlash could worsen a crisis that has carried the European economy — and Germany with it — into a potential economic no-man’s land.

Merkel has played her hand smartly so far, many analysts said. But with nobody knowing where the breaking point for the crisis may be, they said, Merkel may be waiting out time that neither she nor the rest of Europe has.

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