German brinkmanship tests EU nerve

Merkel and ObamaEurope has a new Iron Lady and her name is Angela Merkel. Iron 'Ange' is playing a high-stakes game of 'Who will blink first' on European - increasingly French - pleas to back a massive bond-buying spree by the European Central Bank (ECB) to help avert "a European catastrophe".

There is some cerebral German method to the gridlock - apparently.

German protectorate?

Either way, Germany still stands to lose hugely. If the euro does break up Germany will still be on the hook for the massive depreciation of its overseas assets. Its currency would accelerate, making exports massively more expensive. Job losses would be huge.

And where and who could she continue to export to? Almost 60% of German exports in 2010 went to other EU member states. The move could crater her economy.

But if Germany was to back, for example, calls for pooling euro-zone debt, that would raise her own borrowing costs. By some margin, given the enormous €2-plus trillion debt load. Politically at home, it's massively difficult for Merkel. Earlier this year, Germany's constitutional court ruled that Germany's constitution forbade it to hand more German bail-out taxpayer cash to other countries. Go against Parliament? Very tricky.

On the rack

Buying into the eurobond route would also put Germany completely on the hook for debts run up by other states. So the longer Merkel holds out, the thinking goes, the more support she is likely to get at home, and the more pressure she exerts on other countries like Italy and Spain - and, increasingly, France - to push through their own radical economic reforms.

President Sarkozy would love the ECB to come to the rescue. French banks were massively irresponsible in lending money to their poorer neighbours (as were German banks, though that's something we don't hear much about from the Germans themselves). Sarkozy can't afford to write off these debts because it will clobber his country financially, and himself in the coming elections.

Madame 'Blink'?

In a sense, this is a crisis too good to miss for pious Merkel. Try harder, she is telling Europe. Take your own medicine. Pay your own credit card back (but who was silly enough to give them so much credit?).

The European Central Bank, insists Merkel, should only administer the policy of the 17 eurozone member states, not bail them out. She has however agreed to European financial stability facility plans to boost it to €1trn, potentially flooding Europe with cash.

Trouble is, many international investors don't believe this particular 'bazooka' will do the job. Too many outstretched hands with dodgy pasts and grubby nails. They also think the 'rescue' process is taking far too long.

In the meantime more contagion is all over the shop; investors will surely vote with their boots. Sensible, rational behaviour. Unbelievably, what is needed now is a new crisis. Or someone - Merkel? - to blink. Who gives?
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