Report: Germans About To Launch Bomb Within Heart Of Europe

 |  Includes: AAPL, DIA, MSFT, PEP, QQQ, SPY
by: James A. Kostohryz

A good friend of mine who works at the finance ministry of one of Europe’s major economies sent me an article in the Spanish press over the weekend that sent shivers down my spine. According to confidential sources – and given credence by my friend – Germany is preparing a radical assault on ECB governance.

If the sources are accurate, it is my view that this assault on ECB governance is merely one step in a German grand strategy to radically restructure the euro and/or pave the way for a German exit from it.

This story published on Saturday gains a great deal of credence after Merkel ratcheted up the pressure today at her party (CDU) conference for a “breakthrough to a New Europe” characterized by closer political ties, tighter budget rules and less individual sovereignty for member states. Merkel said that the European Union needs to develop new structures - and that would mean more Europe, not less.

My Way Or The Autobahn

According to the cited article from the Spanish press, at the next EU summit on December 9, Germany will propose a series of reforms to the “Treaty of Berlin” aimed at creating a much more unified governance of European economies. According to the article, the CDU is preparing a resolution that calls for a reform of EU laws to make the vote of each member state proportionate to its GDP. This would guarantee German supremacy within the ECB and would allow it to dictate policy to all 17 eurozone nations.

Germany apparently wants to capitalize on the fact that the bailout mechanisms introduced so far are clearly inadequate. In exchange for one-off support on various extended bailout measures, the Germans want new governance rules to recognize German supremacy within the European Union.

One key demand that the Germans will make in exchange for their support for extended bailout measures will be that the vote of member states within the ECB Governing Council would be made proportionate to GDP. Currently each member state has one vote – i.e. Malta’s vote has the same weight within the governing council as Germany’s. Under the new scheme Germany would have 27 votes out of 100 while France would have 21. This means that Germany, France and one more ally could essentially dictate monetary policy to the other 14 member states.

The Germans would apparently be couching this power-grab in the context of more generous bailout concessions to the PIIGS. The proposal is structured as a quid pro quo. Either member states accede to the new structure, or Germany will withhold support for bailouts. According to Ralph Brinkhous a CDU member of the German parliament’s finance committee, Merkel’s message “is that we either we get more Europe now or the project will die.”

In other words, it’s my way or the autobahn.

The driving force behind the ECB power grab is that the Germans have become alarmed over what they see as the wayward initiatives of the ECB in recent months to bail out Italy and Spain by purchasing their bonds on the secondary market.

German outrage over this policy has been well documented and has prompted the resignations of Juergen Stark and Axel Weber – the key German representatives within the ECB. Furthermore the German parliament recently passed a resolution conditioning German bailout assistance on a halt to ECB purchases of sovereign debt.


It is my belief that a heavy-handed German power grab of the sort suggested in the linked article will spell the end of the eurozone as we know it. The proposal to eliminate one country one vote within the ECB is a bomb launched right at the heart of Europe. One country one vote has been a center-piece of ECB governance since its inception in 1999. I do not believe that member states will allow alteration of this basic principle.

I think that the Germans must know that such a proposal will not be accepted. If the cited article is correct, they evidently don’t care.

To the extent that the article’s sources are accurate, the formulation of this proposal tends to show that Germany is in the process of actively preparing for an exit from the euro. This would be consistent with the thesis expressed in my article, “Prepare For A Europe Collapse Before New Year.”

I believe that the cited article, along with Merkel’s speech today, strengthen the case that a major eurozone crisis could unfold before New Year. Merkel must know that German parliamentarians and German voters will not renounce economic or political sovereignty under current EU arrangements in which Germany’s weight within the EU is not properly represented. Thus, in order to make tighter political and economic union palatable to her population Merkel must propose a plan that guarantees German supremacy within the EU.

At the same time, Merkel must be aware that this power grab will be fiercely resisted elsewhere within the EU. However, Merkel may be calculating that since the salvation of the euro depends upon the German populace putting their capital on the line, Germany is now in a position to make major demands – demands that do not seem unreasonable from a certain point of view.

If these demands to recognize German supremacy are not met, Merkel may be reasoning that it provides the perfect pretense for Germany to exit the euro without seeming to be too much of an ogre. After all, Merkel’s demand does not seem unreasonable: It is simply, “no taxation without proportional representation.”

I will repeat here what I have been saying consistently for several weeks: My target zone for the S&P 500 (SPX) based on the scenario laid out above is 950-1,020. In my view, all but the shortest-term traders should refrain from attempting to play the equity market on the long side through individual stocks or equity market proxies such as SPDR S&P 500 ETF Trust (NYSEARCA:SPY), SPDR Dow Jones Industrial Average ETF Trust (NYSEARCA:DIA) or Powershares Nasdaq-100 Index Trust (NASDAQ:QQQ). I believe that investors with longer time horizons should raise cash and avoid purchasing or holding otherwise attractive equities such as Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT) and Pepsi (NYSE:PEP).

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: I am long puts on various cyclically sensitive indices. I am short QQQ. I am short TLT.