Bundesbank Warning

The Lonely Warrior

  • Why it matters

    Why it matters

    Next month the ECB’s rate-setting governing council, on which the hawkish Jens Weidmann sits, is due to decide whether to extend the bank’s controversial quantitative easing program.

  • Facts

    Facts

    • Since 2011 sovereign debt in the eurozone has risen from €8.5 trillion to €9.8 trillion.
    • Of the 19 countries that use the euro, 14 are failing to meet the requirements of a stability pact which stipulates that government debt should not exceed 60 percent of a country’s GNP.
    • By buying more than €1 trillion of government bonds, the ECB has become the largest creditor of euro-zone countries.
  • Audio

    Audio

  • Pdf
Key Speakers At Euro Finance Week
Jens Weidmann has been fighting a lonely battle for the last five years. Source: Getty Images

Jens Weidmann knew his job wasn’t going to be easy. After all, Germany’s Bundesbank president owes his job to the fact that his predecessor, Axel Weber, had thrown in the towel in the midst of the euro crisis.

Mr. Weber resigned because he didn’t feel German Chancellor Angela Merkel was supporting him sufficiently in the fight to stop the European Central Bank from buying the government bonds of heavily-indebted euro-zone countries. He stepped down, followed by another ECB board member, Jürgen Stark.

Since Mr. Weidmann took over in May 2011, he has repeatedly experienced how lonely life can be as the Bundesbank’s representative on the governing council of the ECB, the body which sets interest rates and broader monetary policy for the entire 19-nation euro zone. With a reputation as the most hawkish of the ECB’s council, he has few allies. Again and again, Mr. Wiedmann has failed to prevent moves to expand monetary policy in the currency bloc.

That hasn’t stopped him from trying. Mr. Weidmann has spent the past five years fighting tirelessly against debt mountains and floods of printed money that he believes are a danger not just to Germany but to the euro zone at large. In an exclusive interview with Handelsblatt, he warned that those risks are only likely to grow over time.

But there’s also a reason he hasn’t stepped down like his predecessor. Above his own convictions as a central banker, there is one thing that’s more important to him: The reputation and independence of the ECB.

Mr. Weidmann is a central banker very much in the German mold.

Although the 48-year-old has not given up trying to influence the rest of the ECB’s council, Mr. Weidmann has pragmatically adapted his strategy to the new realities. At the beginning of his term in office, Mr. Weidmann made little effort to conceal his stiff opposition to loose monetary policy.

That’s changed over the last few years. He and his few remaining allies on the ECB council have softened their approach, conscious of the fact that rows that become public damage the ECB’s image than arguments over the rights or wrongs of loose monetary policy.

Mr. Weidmann is a central banker very much in the German mold. He has all the propensities for stability and financial rectitude that Germans traditionally like to see in their central bankers. The Frankfurt-based Bundesbank, which he leads, has long spearheaded that conservative tradition on the Continent since its founding in the post-war period.

Foremost among Mr. Weidmann’s convictions is an opposition to the central bank’s use of euro-zone bonds to help tackle countries’ sovereign-debt problems. The use of unconventional monetary policy tools distorts markets and creates the risk that even more intervention may be needed to curb such distortions.

“Central banks are now the euro-zone countries’ biggest creditors. This erodes market discipline, which imposes high risk premiums on countries with unsound fiscal policies,” he told Handelsblatt.

This conservative approach, as it is seen by some, sets Mr. Weidmann in opposition to ECB President Mario Draghi, an Italian central banker who has led the ECB since 2011 and been a keen advocate of stimulus measures to revive the euro-zone economy.

25-p60-the-ecbs-shifting-voting-rights-01

Next month the ECB’s governing council will meet to decide whether to extend a €1.74 trillion asset-buying scheme, due to expire in March 2017. The quantitative easing plan, launched in March of last year, is designed to boost growth and prop up inflation – which has missed the bank’s 2 percent target for over three years running.

Under Mr. Draghi’s leadership of the ECB, interest rates have been pushed to a record low of zero percent while almost €1.2 trillion has so far been spent buying government bonds, massively inflating the ECB’s balance sheet. All of these developments have been opposed by Mr. Weidmann as being altogether too risky.

And it’s not just monetary policy that has changed fundamentally in the years since the euro zone’s debt crisis. Since Mr. Weidmann’s appointment, sovereign debt in the currency bloc has continued to rise from €8.5 trillion to €9.8 trillion, increasing from an average of 86 percent to 91 percent of annual economic output as measured in gross domestic product (GDP).

Of the 19 countries which use the euro, 14 – including Germany – are currently failing to meet the requirements of the European Union’s Stability Pact, which stipulates that the total debt of a member state should not exceed 60 percent of the country’s annual GDP. Only the three Baltic states, Slovakia and Luxemburg are currently in compliance with that debt rule.

New borrowing is hardly any better. The Stability Pact says countries shouldn’t post annual budget deficits of more than 3 percent of GDP. Yet according to the most recent data, the deficit ratio of the euro-zone’s large countries of France, Italy, Spain and Portugal all exceed that maximum.

But instead of penalizing the infringements with the legal sanctions possible under the Stability Pact, the European Commission and finance ministers have allowed countries to get away with running large deficits. In the view of many German policymakers, this has undermined the credibility of the monetary union.

The risk, according to policymakers like Mr. Weidmann, is that state budgets could be put back under pressure at a later date, such as in times of rising interest rates. That could once again threaten the continued existence of the euro.

The situation is compounded by the fact that many euro-zone heads of state and heads of government have failed to implement the structural reforms needed to develop new growth dynamics. That applies as much to countries like Italy and France as it does to the basket case which is Greece. It’s why Mr. Weidmann rejects the European Commission’s push for a fiscal stimulus.

“Given that capacity utilization has nearly returned to normal, I doubt that the euro zone really needs a debt-funded economic stimulus program,” he said. “The problems in many countries are more structural in nature.”

Nevertheless, Mr. Weidmann’s warning that fiscal stimulus loose monetary policy cannot be a substitute for implementing necessary structural reforms – a position that Mr. Draghi and many others at the ECB actually share – has gone largely unheeded.

G7 Finance Ministers and Central Bank Governors’ Meeting
Standing out in the crowd. Jens Weidmann with German Finance Minister Wolfgang Schäuble (left), Fed Chair Janet Yellen (center right) and ECB President Mario Draghi (right). Source: Getty Images

Mr. Weidmann will find more allies in the ECB and elsewhere when it comes to warning against a global slide into trade protectionism.

Following the election of Donald Trump to be the next U.S. president, it seems increasingly likely that the world economy will be heading for another slump – as evidenced by his announcement this week that he would annul the U.S. free-trade deal with Asia-Pacific nations, known as the Trans Pacific Partnership (TPP), on his first day in office.

And it also looks likely that this would only be the first of further protectionist measures that the new president will push for. Under his campaign slogan “America first,” Mr. Trump has put in question the continued existence of the current world trade order as he believes that this puts American jobs at risk.

By the same logic, the proposed Transatlantic Trade and Investment Partnership (TTIP) agreement between the U.S. and Europe is also likely to be shelved. That would be a shame as, at a time when Europe’s prospects look bleak following Britain’s decision to leave the European Union, TTIP could have created new growth prospects for the Continent.

Of course, for free-trade advocate Mr. Weidmann, none of this is good news. The German central banker argued that policymakers have to do a better job of explaining the merits of free trade – but also recognize that some groups will inevitably lose out.

“It was not just assembly-line workers from Detroit who backed Donald Trump, but also a large chunk of the middle class. Many appear to be feeling insecure and to have a sense of having lost control,” he said, but added: “There are no simple answers, either. Calls for barriers and more government control seem tempting at first glance but are the wrong way to go.”

Mr. Weidmann has a reason for trying to get global trade going again. If it doesn’t, the job of propping up economic growth once again falls on the ECB, which seems likely to decide to keep going with its quantitative easing policy for longer than expected.

His entire world view seems to have collapsed like a stack of coins.

It’s not just trade where Mr. Weidmann has much to be disappointed about. Indeed, his entire world view – in which the existing rules of financial and monetary policy are respected, budget violations are sanctioned and central bankers are committed to the single goal of price stability – seems to have collapsed like a stack of coins that has been stacked too high.

In a time of economic crisis and growing populism around the world, Mr. Weidmann’s principles count for little. He looks set to be an increasingly lonely figure as one of the few hawks still representing Germany’s conservative “ordo-liberal” economic tradition.

Nevertheless, Mr. Weidmann’s missionary zeal appears undaunted. He regularly travels to southern Europe to promote Germany’s policies of economic stability. This has included talking with Portuguese parliamentarians in Lisbon, with politicians and entrepreneurs in the German embassy in Rome and soon with the Flemish Entrepreneurs’ Association in Brussels.

His message, at all these events, is the same. In his characteristically diplomatic, quiet but unequivocal manner, he sets out why he believes more self-responsibility and budget discipline are necessary.

For example, when speaking in Rome in April, Mr. Weidmann started off by praising the Italian government of Prime Minister Matteo Renzi for its work to liberalize Italy’s labor market. He then went on to call for “some European countries” to implement further reforms in order to create a better functioning administration, a quicker and dependable justice system and, overall, a more efficient political system. Everyone who was present at the German ambassador’s residence in the Villa Almone understood that he was referring to Italy, even if Mr. Weidmann didn’t actually refer to the country by name.

Mr. Weidmann’s tour of European capitals is driven by a serious underlying concern: that the policy direction of travel in the current economic climate is putting even more pressure on monetary policy to support unsound state finances through low interest rates.

A particular concern for Mr. Weidmann is that, by accumulating more than €1 trillion of government bonds, the ECB has become the largest creditor of the euro-zone countries.

Further evidence of the gravity of the situation can be seen in the fact that heavily indebted Italy has – despite a recent rise – become used to record low risk premiums on a par with those of German federal bonds. Meanwhile, Italy’s Confindustria business association argues that it is unfair that Italian companies are facing higher financing costs than German firms.

The Bundesbank president is extremely concerned about a fall-off in confidence in the ECB.

The ECB has long had a rule that it cannot directly fund the governments of its member states. These days, that principle exists only in theory. In reality, the ECB has become the rescuer of last resort for ailing states, buying up billions in bonds on the secondary market. According to Mr. Weidmann this is a fatal mistake, but shows that the power of reality is stronger than the theoretical arguments.

Although Mr. Weidmann would never say so publicly, out of respect for the institution, one of his confidants said the Bundesbank president is extremely concerned about a fall of confidence in the ECB.

The radical course that Mr. Draghi has set for the ECB is not only a matter of concern for process-oriented policy makers such as Mr. Weidmann. The ECB president has also made the institution an easy target for attacks from populists. For extreme-right politicians such as Geert Wilders in the Netherlands, Marine Le Pen in France or Frauke Petry in Germany, the central bankers of the ECB are part of the hated European establishment.

An unpublished opinion survey by the Bundesbank carried out at the beginning of the year particularly shocked Mr. Weidmann. While the Bundesbank continues to be widely trusted by the German public, they do not trust most of the European Union institutions, including the ECB.

And even those in southern Europe who particularly benefit from the ECB’s largesse appear to have lost faith in the euro zone’s grail-keepers. In Italy and Spain, just 29 percent and 24 percent respectively have confidence, according to the latest Eurobarometer opinion poll of the ECB.

Debt of the G7 industrial nations and Changes in GDP

This creeping loss of credibility has prompted ECB governing council members to make peace, at least in public. While the bank’s monetary policy continues to be debated fiercely between council members, in public the tone has deliberately become milder.

“There is now hardly any sharp shooting between individual members of the council and that is because of the pressure from the populists,” said one insider.

Internally, however, Mr. Weidmann increasingly represents a minority position when he points to the risks of an expansive monetary policy. And that lonely position will no doubt be apparent at the ECB’s next council meeting on December 8.

As is often the case, Mr. Draghi has already publicly positioned himself in the run-up to the decision on extending quantitative easing, practically pre-empting the bank’s decision.

“We still see no consistent reinforcement of underlying price dynamics,” Mr. Draghi said last week, in a statement that is widely seen as a confirmation that the ECB will extend its bond-buying program.

Mr. Weidmann, as always, sees things differently:  “There is an increasing danger of the financial system veering off course,” he warned, as he subtly urged the Frankfurt-based central bank to start thinking about turning off the monetary spigot.

“The asset purchase program will certainly not be ended “cold turkey”. Irrespective of how quickly monetary policy returns to normal, the key factor under all circumstances will be to lay the proper groundwork for it in terms of communication,” he said.

As always, Mr. Weidmann will not have much support from other council members when it comes to fighting against the extension of the bond-buying program. Only a handful of members, such as the German ECB executive board member Sabine Lautenschläger and Klaas Knot, the president of the Dutch central bank, are on his side.

The independence of the ECB for him is sacrosanct.

In fact, Mr. Weidmann cannot even count on Germany’s federal finance minister, Wolfgang Schäuble, for 100 percent support, even though the veteran politician from Chancellor Angela Merkel’s CDU party supports Mr. Weidmann when it comes to opposing the growing debt of euro zone countries and his calls for structural reforms.

Back in April, Mr. Schäuble did Mr. Weidmann no favors when he and other CDU politicians fiercely criticized the ECB. By calling for interest-rate hikes, and even blaming Mr. Draghi for the rise of the far-right AfD party in Germany, he appeared to question the independence of the ECB.

Mr. Weidmann responded immediately with a rare defense of his ECB counterpart Mr. Draghi: “It is not uncommon for politicians to have an opinion on monetary policy issues, but we are independent,” he said at the time. Whatever Mr. Weidmann’s differences with other members of the ECB governing council, the independence of the ECB for him is sacrosanct.

Indeed, the importance of indepence runs through much of Mr. Weidmann’s thinking. It’s a key part of the reason Mr. Weidmann also chides Mario Draghi. The central bank’s bond-buying plan, he has long argued, veers too much into the political sphere.

“It is precisely through its non-standard measures that the ECB has blurred the line between monetary and fiscal policy, and the intensity of the debate on the role of central banks comes as no surprise. This is why I am in favor of a narrow interpretation of our mandate,” he said in Handelsblatt’s interview.

Even in Germany, many of Mr. Weidmann’s recommendations for the economy have been met with silence and shrugs of despair. Even from Chancellor Merkel, for whom he worked for five years as her most important economic adviser. While he could previously count on the support of other CDU party leaders like Friedrich Merz or Roland Koch, they have long since left politics.

Unlike Mr. Trump, Mr. Weidmann is no blusterer who shouts out his frustration loudly in order to bring people over to his side. He’s more like a scientist who speaks both analytically and quietly; someone who prefers to convince people through serious arguments, someone who is committed to laws and regulations and someone who thinks at least twice before he speaks.

And the risks he has long highlighted may soon be borne out: Despite today’s ultra-expansionary monetary policy and massive loan purchases, the economies of countries such as Italy and France are on the brink of recession. Meanwhile, bond purchases and negative interest rates continue to distort financial markets and risks continue to accumulate.

Deutsche Bank Chief Executive John Cryan recently warned that the purchase of loans made it almost impossible to assess the price and risks of many corporate bonds. “This is a dangerous situation,” he said.

But, despite the desperate struggle, Mr. Weidmann isn’t giving up, as he feels that he is on the right track, and also because his name is linked with monetary policy values. Resignation is not an option for him.

With Mr. Draghi’s term of office due to expire in 2019, some are now calling for a German to succeed him. Mr. Weidmann doesn’t necessarily agree. Such calls are “counter-productive,” he said.

“We shouldn’t debate the preferred nationality of Mario Draghi’s successor three years before his term of office ends. That would damage the office,” he said.

Things could become clearer in 2018, when the position of vice president of the ECB’s governing council is due to be filled. If the post goes to a more dovish central banker, a representative of loose monetary policy, then this could strengthen the chances that the top post will go to an advocate of tighter policy, such as Mr. Weidmann.

If Ms. Merkel is prepared to put her hesitancy to one side and push for a German to lead the ECB, this could finally be the moment when the lonely Jens Weidmann enjoys solid political support again. But that is a long way from being certain.

013 Bundesbank-WTB 2014 resume

Sven Afhüppe is Handelsblatt’s editor in chief. Daniel Schäfer is the chief editor of Handelsblatt’s finance pages. Christopher Cermak of Handelsblatt Global contributed to this story. To contact the authors: afhueppe@handelsblatt.com and dschaefer@handelsblatt.com

We hope you enjoyed this article

Make sure to sign up for our free newsletters too!