MNI Euro Insight: German Officials Say Geopolitics Key in Merkel’s Determination to Avoid ‘Grexit’

13/3/2015

Chancellor believes Eurozone can weather 'Grexit' but worries about geo-politics; Schaeuble has pondered ‘Grexit,’ and worked on contingency plans, but shares broader concerns; If needed, Berlin would OK more T-bill issuance or early disbursements

Fearing instability in the Balkans, the German chancellor Angela Merkel is determined to prevent a situation in which Greece exits the euro area by accident amid rising tensions between the two countries over financing, according to senior officials in Berlin.

The officials stressed that if Greece was to leave the single currency it would be because there is not enough common ground on how the Eurozone should work, rather than missing the moveable targets around repayment deadlines and reform commitments that have been set with creditors.

“This is a political decision, there will be no ‘Graccident,’” a well-placed official, who is familiar with the chancellor’s thinking, said, using the term that has recently been coined to describe the possibility of Greece leaving the Eurozone as a result of misunderstandings and political tensions.

Fears of Greece leaving the currency bloc have risen again recently as the country is struggling to find enough money repay its creditors, and progress on the implementation of structural reforms -- a requirement for releasing funds in the current bailout-package -- is stalling. Greek politicians, meanwhile, are irritating their German counterparts by threatening to seize German property as compensation for crimes during the German occupation of Greece.

While Merkel is understood to believe that the euro area is now better equipped to weather the market turbulence that could ensue if Athens departs the euro-area, the possible geopolitical consequences of such a development have become a major concern in the chancellery. The main fear is that the southern Balkan region could be destabilized and Greece -- a member of NATO -- could fall under Russian influence.

As a consequence, the German government is ready to back unorthodox solutions to prevent Greece from running out of cash. These are said to include increasing the limits of short-term Treasury bills that Athens could issue and sell to Greek banks, which then post them as collateral with the European Central Bank, temporary capital controls in case of a bank-run, paying out funds from the current program ahead of schedule and delaying debt repayments to the International Monetary Fund. The government wants to avoid going in this direction, but it is not ruling out that these instrument could be used if there is no other way to keep Greece in the euro area.

Such support would only be granted, however, if there is political agreement in Europe that Greece remains a member of the currency area, which from the German side’s perspective requires a clear commitment to implementing reforms and accepting the established bailout infrastructure. In this case, Germany remains ready to back a third financial support package to cover funding shortfalls in the coming years, the officials said.

Berlin still expects that enough common ground could yet be found with Athens especially as Merkel is understood to have established a good working relationship with Prime Minister Alexis Tsipras of Greece.

The German government is also ready to agree on a lower primary surplus target and leave Greece more leeway when it comes to defining and implementing reforms and -- at a later stage -- also a reduction in its debt burden.

The chancellor's main opponent in the government has been the finance minister Wolfgang Schaeuble, who is understood to have repeatedly pondered the idea of forcing Greece to leave the euro-area. Schaeuble -- who, like the chancellor, is a member of the centre-right Christian Democratic Union (CDU) -- is probably the most pro-integrationist member of Merkel's cabinet and believes that adherence to rules and procedure is a condition for a closer Union.

Schaeuble is understood to believe that the Greek government may not be capable of running the country in a way that is compatible with more political and economic integration in the euro area. He laid out his ideas of a “core Europe” in a 1994 paper in which he argued that a “core” of members, willing to share more sovereignty, should be allowed to move on if needed.

Merkel's opposition to a ‘Grexit’ has led Schaeuble to abandon his plans, and more recently he, too, is understood to have become more concerned about the geopolitical environment. The differences between the chancellery and the finance ministry have hence narrowed. This is why, despite his public sabre-rattling, Schaeuble played a constructive role in the negotiations that led to the recent extension of the Greek bailout package.

Nevertheless, in the German government's view there is a risk that the negotiations might reveal fundamental differences with Greece that cannot be bridged. In this case, Germany would be ready to let Greece go. The Finance Ministry is understood to have worked on contingency plans in case Greece leaves the euro-area. Under this scenario, Germany would call for the use of EU instruments to support the country outside the currency area.

Assuming that Greece stays in the euro area and needs more financial support, Merkel is likely to come under increasing pressure from lawmakers of her own party. There is little willingness among conservative members of Parliament to put more money at risk to help Greece as voters are also losing their patience.  So for the moment, no change in policy is envisaged.

“We will take this risk,” another official close to Merkel said. With the Social-Democratic Party (SPD) -- the CDU's coalition partner in the federal government -- generally more open to helping Greece, the chancellor will most likely be able to secure a majority in the Bundestag if a vote on a third program is held.

The expectation that Greece will remain in the Eurozone remains the view of most investors.  A recent report by Standard & Poor's, the credit rating agency, said a ‘Grexit’ was not its base-case scenario.

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