U.S. Treasury's Collision Course With Germany

Includes: DBGR, EWG, FGM
by: Desmond Lachman

To its credit, the U.S. Treasury is not pulling any punches in letting German policymakers know about its serious concerns about the damage that Germany is doing to the European economy by an overly restrictive domestic economic policy stance. In its recently released semi-annual exchange rate policies report, the U.S. Treasury shines a bright light on Germany's large external current account surplus, which presently amounts to as much as 7% of GDP. It is calling on Germany to reduce its reliance on exports and to focus its efforts instead on promoting domestic demand to support its recovery with a view to supporting the economic recovery in the rest of Europe.

The timing of the Treasury's criticism of German economic policy seems to be particularly well-timed. Today, Eurostat released data showing that European unemployment remains stuck at an appallingly high rate of 12.2%. It also reported that over the past year overall European consumer price inflation had decelerated sharply from 2.6% to 0.7%. With a number of countries in the European periphery already on the cusp of outright deflation, these trends have to raise questions as to whether overall Europe might not be heading for a bout of Japanese-style deflation.

Sadly, while the Treasury's admonishment is likely to rile the German policymaking establishment, it is unlikely to change German policies. Seemingly coming from a different planet, German policymakers believe as an article of faith that since budget prudence and structural reform has served Germany well over the past decade there is little reason for Germany to change course now. They simply dismiss as a misguided Anglo-Saxon idea any notion that draconian belt tightening in the European periphery needs to be offset by budget expansion in those European countries that have room to do so.

All of this does not bode well for German/U.S. political relations coming as it does so soon after Germany's concerns about U.S. eavesdropping. It also does not bode well for the prospects of any meaningful pick-up in the European economy or for any early reversal of Europe's recent strong disinflationary process.