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05 March 2021

PD implodes, Five Star fractures

Our main story is about the resignation of Nicola Zingaretti as the leader of Italy's Partito Democratico, and a parallel power struggle currently raging within Five Star; we also have stories on Italy's vaccine strategy; on the US-UK truce in the trade war; on the deterioration of EU/UK relations over Northern Ireland; on political fragmentation in the Netherlands; and on Schröder's doctrine - that human rights have no place in foreign policy.

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That sums it up

The mercantilism at the heart of German foreign policy was expressed with brutal clarity by Gerhard Schröder in a rare article published in the newspapers of the Handelsblatt group. He is saying: forget human rights. Foreign policy is about self-interest and gain alone. A moralising foreign policy, as he calls it, does not work. This is obviously a position we disagree with strongly. But it differs from Angela Merkel's foreign policy only in terms of its honesty. He describes the status quo. He is not calling for something that does not exist, both in Germany and the EU. It is also the guiding philosophy of the EU-China comprehensive agreement on investment, with the exception that Schröder, unlike the proponents of CAI, does not pretend that the deal would co-opt China into a dialogue. 

Schröder's point is that under the Biden administration, the US is now focused on China as a systemic rival and is asking the European to join the coalition. He questions whether this is in the European interest. We think it is legitimate, of course, to defend the European interest. Where we disagree is the definition of what constitutes the European interest. Schröder's definition is narrowly focused on corporate investment. He said German exports to China last year compensated for losses in other export markets. German car manufacturers sell 40% of their entire production in China. He didn't quite say: what's good for VW is good for Europe. The reason he did not say this, we suppose, is because for him it is self-evident.

A serious point he is making is that the only way to get China to comply with international climate goals is not by forcing the country to adopt western values, but through technology. That's also an issue discussed within the Biden administration. We consider this to be the genuine dilemma in the western strategy towards China. Our view is that a country that violates human rights is unlikely to comply with climate targets either. But an excessively confrontational strategy might be counter-productive, too.

4 March 2021

Oops, Germany forgot to buy the self-tests

Angela Merkel has had a lot of fans in the German and international media. This is changing, at least in Germany itself. Long-standing readers will know that we have been criticising her for a tendency to paper over cracks - during the eurozone crisis for example. The kicking-the-can-down-the-road mindset has revealed itself to many more people during this pandemic. Merkel was personally behind the decision to shift vaccination procurement to the European Commission, without even considering whether the Commission had the capability to do this effectively. When that failed, the German government declared self-tests to be the royal road out of lockdown. That sounded like a good idea, even to us. As it turned out, the German government has not even bought them yet, because they are still haggling over the price. This is, unsurprisingly, the headline of Bild this morning. The lockdown persists because the government failed to order the tests.

Germany is lucky so far that the mutant virus has not yet led to an explosion in infection rates, as is now happening in France, Italy and the Czech Republic. Objectively, the reasons in favour of a lockdown have not shifted. Infection numbers are not falling. Vaccines and self-tests are not yet available in large numbers. What has shifted is the political mood. People want this lockdown to end. And they are taking a closer look at what has revealed itself as a strikingly incompetent government.

Yesterday Merkel held another Covid crisis summit with the state premiers, which ended with an agreement on a smoke-and-mirrors strategy. The only material shift is the drop of the official target of an infection rate of less than 35 out of 100,000 inhabitants, as a precondition for the lifting of the lockdown. They dropped it because it is out of reach. The national infection rate is 64 - and rising. The new target is 100 infections - below which a partial lifting of the lockdown is possible. But not now.

The way this will work is through uncoordinated discretion, each state to themselves. There are important elections in Baden-Wuerttemberg and Rhineland-Palatinate in ten days, followed by the federal elections in September. The lifting of the lockdown is first and foremost an act of politics. The Robert-Koch Institute has recommended a different strategy: stick to the target of 35 infections per 100,000, and phase-out the lockdown based on that target. That would keep Germany in lockdown for another two to three months. Merkel supported that strategy until the political wind shifted.

What we are now likely to see in the next few weeks is very confused and regionally uncoordinated partial lifting of the lockdown, possibly with reversals if case numbers rise. The hairdressers already came first. The next step will be garden centres, flower shops and book stores (don't ask why); the third stage will be the big one: retailers and museums; eventually followed by theatres and cinemas. As FAZ put it this morning: Germany is trapped in small print. The lockdown will remain. The Merkel-friendly German media can't sugar-coat this any longer. 

3 March 2021

A bad day for Sturgeon

We will, for the time being, keep an eye on Scottish politics given the importance it has for Scottish independence and potential EU membership.

Yesterday, two key witnesses in the Scottish parliament's investigation of the Alex Salmond affair corroborated the former SNP leader's version of events that the Sturgeon government unduly interfered in the legal process. The Scottish government yesterday published the legal advice it received, which shows that its own lawyers cast doubt on the government's pursuit of the case.

The Scottish Conservatives responded to the news by tabling a vote of no-confidence. To succeed, it would require the support of all opposition parties. The BBC's political analysts believe that the Greens, whose votes would be critical, will for now not support a censure until the parliamentary committee has reported. Labour and LibDems say they first want to hear Sturgeon respond to these allegations. BBC television yesterday played clips of her denying knowledge of certain facts when it appeared that she had been informed.

We won't recount the many details of this story, which involve many actors, many meetings, and many accounts of who said what to whom at what time. In a nutshell, this is about whether Sturgeon tried to frame Salmond in a series of cases involving sexual assault. A court cleared him on all counts a year ago.

This is still a very fluid situation. Pressure is building on her to resign. With just two months to go until the Scottish elections, it is quite likely that this affair will eat into the party's support. Sturgeon enjoys strong personal popularity because of her sure-footed handling of the pandemic, but as we see in other countries, such support can easily flip.

We already saw early polling evidence of a shift in support for independence, which is highly correlated with support for the SNP itself. The rule that divided parties so badly in elections is unlikely to be suspended. Salmond still enjoys strong support among the party's rank and file. The independence polls are now on cliff-edge. Sturgeon's own approval rating had already fallen ahead of yesterday's events.

2 March 2021

Future of Europe not too bright

After months of wrangling, the Portuguese Council presidency has drafted a joint declaration on the Conference on the Future of Europe. The conference represents perhaps the last opportunity for the EU move forward on establishing the legal structures for a real fiscal union – but if the joint declaration is anything to go by, we should not expect much.

The conference was first proposed by the European Commission and European Parliament at the end of 2019. It aims to plan the mid- and long-term future of the EU, including reforms that should be made to policies and institutions, by providing a discussion forum for the public, civil society, experts and EU institutions. It will be co-run by EU institutions and member states, one of many problems it faces.

The conference was originally planned to last for two years, beginning last spring. Covid-19 scuttled those plans, and the conference will now last less than one year, during which time stakeholders will need to identify themes through online consultations, convene citizens’ panels to discuss them, and conclude the discussions.

Alberto Alemanno argues that what strikes him most about the joint declaration is that it is lacking any sense of what the conference aims to do and how it will do it. The conference is meant to be a citizens-focused, bottom-up exercise for Europeans to have their say on what they expect from the EU. But details are scant, with the joint declaration only mentioning plans for conference events, physical or digital, that can be organised at different levels, and should involve civil society and stakeholders reflecting European diversity.

The conference has been in the headlines in recent months because of infighting over who would chair it. European Parliament wanted Guy Verhofstadt, but this was rejected by the Council, triggering an acrimonious stalemate and warnings from various stakeholders. The solution, as outlined in the joint declaration, is a governance structure that Alemanno generously describes as sophisticated.

The conference will be overseen by the presidents of the Commission, Council, and European Parliament, as well as an executive board with three representatives and four observers from the same institutions.

The Conference of Parliamentary Committees for Union Affairs of Parliaments of the European Union, Cosac, will also participate as an observer, and other committees may be invited, as well as representatives of other EU bodies and social partners.

But wait, there’s more: a common secretariat will also be established to ensure equal representation of the three institutions and assist the executive board. A conference plenary will be established to bring forward recommendations from European and national citizens’ panels, the latter of which will be established in every member state but grouped by themes in the plenary. These panels will respect a conference charter that will establish a set of principles and minimum criteria reflecting EU values, and defined by the conference structures. Citizens, MEPs and EU representatives are also expected to join the plenary, although its total size was not included in the joint declaration.

It is a mind-bogglingly complicated set-up for what the document describes as a lean governance structure, leading some observers to fret that the conference has failed before it has even begun.

This is a problem because the eurozone is not properly regulated, and will require treaty change to establish the legal basis for a proper fiscal union. The Lisbon treaty was a step in the right direction, widening the scope for enhanced cooperation, but even this procedure hasn’t been used for anything of great significance. If the conference on the future of Europe is a fudge, rational observers will draw the conclusion that a fiscal union is not going to happen.  

1 March 2021

Hopeless and serious

The European vaccines story falls in the category of hopeless and serious - but not fast-moving. The lack of progress that was there last week, is still there this week, and won't be resolved for months to come. There are three categories of problems for European countries: lack of supplies, hoarding of AstraZeneca vaccines following an official smear campaign and logistical difficulties.

Germany got only 18m vaccines in Q1, to be followed by 77m in Q2. That's enough for less than half the population. Another 127m are due to arrive in Q3. If they can administer them in time - which is not a given - some degree of herd immunity should be reached in the late summer.

All of the EU countries grapple with unused vaccines. In Germany a third is unused, unsurprisingly because people don't want AstraZeneca. The German authorities are now considering ending the ban of the vaccine for the over-65 year olds. The prime ministers of Baden-Wuerttemberg, Bavaria and Saxony have called for unused AstraZeneca vaccines to be given to younger people ahead of schedule.

The other issue is distribution. The German government has still not done the work to get the vaccines to doctors and pharmacies. Some states have unrolled their own schemes, but without coordination. They will eventually organise themselves, but we are probably not on the fastest track possible.

The situation in France is almost exactly the same as in Germany. CovidTracker reported yesterday that while France has received more than 1m doses of the AstraZeneca vaccine, it has administered less than 250,000 so far. Observers are asking why the country is sitting on such a large stockpile. After a concerted smear campaign, we not surprised.

26 February 2021

Dutch parliament calls genocide in Xinjiang

Yesterday the Dutch parliament became the first European legislature to call China’s treatment of Uighur Muslims in Xinjiang a genocide. Politico reports that a nonbinding vote to pass the motion is expected to encourage other European parliaments to advance similar statements.

The government was divided on the issue: Stef Blok, the Dutch foreign minister, said last week that the Netherlands wasn’t ready to declare the situation in Xinjiang a genocide. Before yesterday’s vote, which was brought forward by an MP from D66, Mark Rutte’s foreign affairs spokesperson told local media that the label of genocide should be determined carefully rather than through a quick motion by a politician.

The issue is fraught because the term genocide is generally reserved for situations in which mass killing is occurring. As the Economist noted in a recent article, that is not what’s happening in Xinjiang, although reports of arbitrary mass incarceration, torturous re-education programmes, forced labour and forced sterilisation have horrified international observers.

The Trump administration called the situation in Xinjiang a genocide last month, and the Biden administration has declined rescinding the accusation. UK lawmakers are edging towards a similar move after a group of Tory MPs rebelled over a trade bill, pushing the government to a compromise that gives lawmakers more power to scrutinise the human rights records of the UK’s trading partners.

The Netherlands’ move is significant because it is another example of the Dutch government aligning its foreign policy position with the US. When it became the third EU member state to release an Indo-Pacific strategy last year, the Dutch government wrote that the EU should seek to join the US-led blue dot initiative, which is widely viewed as a counter to China’s belt and road initiative. The Dutch government has also purchased F-35 jets from the US government, while the Netherlands is one of the top five largest investors in the US. In the absence of the UK, the Netherlands could become one of the most vocal proponents of EU-US alignment in the future.

25 February 2021

Hypocrisy of inflation forecasts

We note a curious correlation between economic forecasts and policy preferences. Supporters of the Biden stimulus tend to be optimistic about inflation. But are they really? Or are they just saying that inflation does not, or should not matter? The forecast is not really a forecast. 

When Peter Bofinger, for example, writes in Handelsblatt that he does not expect inflation to be a problem, we had a similar sense. Is this really a neutral forecast? Maybe it is. But it could also be the first salvo in a bigger battle. If the forecast turns to out to be wrong, he may well argue that the ECB should allow inflation to overshoot. If that does happen, someone will no doubt say that it is better to have 10% inflation than 10% unemployment. 

So instead of debating policy tradeoffs, economists are engaging in proxy battles, the first of which is the inflation forecast. It should therefore not come as a surprise that left-wing economists currently express the optimistic sentiment that inflation won't overshoot, while right-wing economists are warning about higher inflation. We note an almost one-to-one correlation between the forecast and the implied policy preference.

Maybe Bofinger is right, maybe he is not. We don't forecast. We have lost confidence in central bank's ability to anchor inflation expectations. By extension, we have also lost confidence in the dominant economic model that critically relies on that happening. The continued use, and belief in, this model, is the reason why the ECB keeps getting its inflation forecast almost comically wrong, as graphically evidenced by those hilarious porcupine charts, like our own version, showing the reality vs the forecast. The ECB inflation forecasts underperform a coin toss. A horoscope would, on average, produce better forecast, or indeed any method that does not implicitly assume that inflation always reverts back to the central bank's policy target. The observation we have made is that inflation expectation can come unstuck through external shocks, and settle at new levels for a period. We described the new post-crisis steady state for core inflation as a rate of close to, but below 1%. This is not a forecast of where we believe inflation will necessarily stay, but it is possible that a combination of supply-chain shocks, excess stimulus in the US, and a sudden release of pent-up savings would produce a new steady-state inflation rate above the central bank's policy target.

So instead of wasting our time on forecasts, we should be discussing real policy choices. Should central banks still target 2% inflation? Or a higher number? A range? A price level? Do inflation targets still make sense when the central bank cannot anchor inflation expectations? We are somewhat surprised to note how little ECB policymakers, and economists in general, are talking about this issue. If central banks get this wrong, their ability to act in other areas, like climate change, will be severely constrained. We think the ECB should focus on the new policy framework. Our sense is that the relative lack of debate tells us not to expect too much from the ECB's policy review.

24 February 2021

Germany 3: US 0

The US state department has persuaded itself there could be an elegant solution to the Nord Stream 2 problem. As FAZ reports, the state department has delivered a report to Congress, which upholds the existing sanctions against 18 companies, most of them Russian, but places a moratorium on new sanctions. The administration says it retains the right to impose new sanctions at any time, but wants to proceed with quiet diplomacy instead.

Well, good luck with that!

We consider this announcement a triumph of German diplomacy, which as it turns out may be better than its reputation. The sanctions moratorium will make it easier for Germany and Russia to accelerate the physical completion of the pipeline. Critically, it will now be possible for the safety certification to go ahead.

The Biden administration's de facto capitulation also means the end of the bipartisan consensus in the US Congress. The Republicans are accusing the Biden administration of acting against the will of Congress, and endangering US security by supporting Europe's energy depending on Russia.

The German reading is that the Biden administration does not want to risk further alienation with Germany after the Trump years. What is perhaps not so well understood in the US, is that Germany is very unlikely to concede anything material in exchange. Once the gas flows, it will be impossible to include oil and gas as sanctions against Russia. Nor will Germany align with the US on China, given the importance of China as the largest market for German exports, and given German dependency on Chinese telecommunications technology. Nor will we see any significant increases in German defence spending under any foreseeable coalition constellation. So this conflict will end up 3:0 to Germany.

It is clear by now that the Biden administration errs on the radical side in its economic policies, but on the cautious side in foreign policy. For the EU, we don't think this constitutes a fortuitous combination. Illusions of a return to the status quo ante in transatlantic relations will arrest the momentum for strategic autonomy, but without putting any real alternative in place. The US fiscal stimulus will remain unmatched in Europe. The ensuing rise in global inflation will constrain the ECB's policy action as we exit the crisis.

23 February 2021

US promises and European appetite

The US is a sort of borrower of last resort for Europe. With our massive current account surplus with the rest of the world, the money has to go somewhere. The US has the depth and width of a global financial market, and it offers a positive return in times when European investors seek to escape negative interest rates. And despite all its boom and bust cycles over the last three decades, it is its economy and democracy we trust.

In Les Echos Jean-Marc Vittori casts doubt on that narrative, with a warning that Europeans are now putting real money into a bubble that may burst, a promise of growth that may not materialise. We are witnessing a large net wealth transfer from the Old to the New continent, with the risk of getting nothing in the end.

The US offers trendy tech shares like Apple, Google, Facebook, Twitter. With Elon Musk and Blackrock it becomes a market maker in bitcoin. Eurozone investors bought €300bn of American treasury bonds over the last three years, the same as all emerging countries together, just when China chose to reduce its holdings. 

European investors put some real money into the US market for a promise of a better return. They are ready to take a double risk on the exchange rate and the solvency of those they invest in. It is unlikely that all those investments turn sour at the same time. But in a bubble strange things happen. And the Europeans are not in a good starting position to take the hit. Like in the dotcom bubble in the 1990s or the subprime market in the late 2000s, Europeans came late into the market of bitcoins or tech companies paying a much higher price than Americans who had entered the market long before then. European investment demand seems insaturable. A poll in France shows that one in seven want to invest in cryptocurrencies. When everyone talks about bitcoin, even those with no money to invest, it is reminiscent of a bubble. There are structural changes, too, that helped promote their titles. The lockdown boosted internet companies, shares of companies and start-ups exploded. The future is digital, in work and leisure. A market full of potential. But not everyone will win. Are the Europeans the ones to pick the winner or pick up the bill? 

22 February 2021

Wilders' prime ministerial ambitions

Geert Wilders had an interesting interview with the television programme WNL op Zondag yesterday. The leader of the far-right PVV party said that he is only interested in joining the cabinet if his party wins the most votes and he becomes prime minister. He is not interested in any other ministerial post, he said.

De Telegraaf reports that most major parties have already said they will not govern with the PVV, making it unlikely Wilders would be part of any future government. This prompted Wilders to characterise his advance exclusion from government as totally undemocratic, a criticism he has levelled at Rutte’s government several times in recent weeks over its decision to impose and maintain a Covid-19 curfew. He recalled that the PVV had already joined the cabinet in 2010 in a construct of tolerance and said he would not hold back on criticising mainstream parties simply because they might govern together later on, telling WNL that he is not a polder politician.  

This story is interesting because press coverage of the interview focused on the possibility of Wilders becoming prime minister, less than a month away from elections and when the race is beginning to tighten – though not in Wilders’ favour.

With the usual caveats, we note that the latest poll from peil.nl shows that the PVV is in second place after Rutte’s VVD party. It is on track to win 23 seats out of 150 in the lower house, up from 20 in 2017. However, support for the PVV has fallen by four seats since earlier polls from December. Support for the VVD has fallen by two seats over the same period, but it is still on track to take 34 seats, one more than in 2017.

Support for junior coalition partner CDA, VVD’s only serious mainstream contender, has improved since Wopke Hoekstra took over. The CDA has gained four seats since December, but it would still only win 18 today, against 19 in 2017.

Two other far-right parties, FVD and JA21, would win seven seats between them, bringing total support for far-right parties to 30 seats in the Netherlands. This seems to have come at the cost of the mainstream opposition. The labour party, PvdA, is on track to gain four seats more than in 2017 to hit 13 in total, although the greens and socialists would lose a combined 10 seats if elections were held today.

These polls tell us the numbers under the premise that they give a correct picture of what is going to happen at the ballot, an assumption that has turned out to be wrong in many elections, including and especially in the Netherlands. As we wrote in our lead story, the vaccination policy mistakes could quickly produce an anti-incumbent effect.