Leading article: Germany faces its moment of truth

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The giant eurozone bailout plan has not succeeded in calming the financial markets. And it is depressingly easy to see why. The €750bn rescue package treats the problem of the eurozone as a lack of liquidity, when the crisis is actually one of solvency.

The likes of Greece, Spain, Portugal and Ireland face a Herculean squeeze on public spending over the next few years which is likely to push their economies into deep recession. Will their governments be able to push through such austerity without falling? And where will their growth come from after that? Germany, which is apparently determined to stick to its high-saving, export-orientated, economy, will not be a source of demand. Even if the bailout plan means they will not default immediately, what hope do they have of paying down their debts over the longer term? These are the questions investors have been asking this week. And they have not received any convincing answers.

Instead investors have been told that they are the problem. This week the German government picked a fight with the financial markets, imposing a unilateral domestic ban on naked short-selling and credit default swaps. But the financial villain in this crisis is not speculators; it is the large European banks which lent so recklessly and without discrimination to peripheral eurozone governments and their private sectors in the boom years. It is these very banks, incidentally, that are set to be the indirect beneficiaries of the eurozone bailout package.

Moreover, this crisis is not being driven by gambling in the financial markets, but genuine fear from investors in eurozone debt that they will not get their money back. This lack of confidence in the long-term viability of the eurozone is not irrational. Struggling eurozone nations have an incentive to bring down their deficits while they are still in the single currency zone (with the help of financially stronger nations) and then leave the eurozone and default on their debts once they are no longer reliant on external borrowing to finance their spending. This course would give them time and support to make their fiscal adjustment and allow for the economic boost of a currency depreciation at the end.

It is said that Angela Merkel's speculator-bashing is simply political theatre designed to get the German parliament to swallow the euro bailout fund. If so, it is the latest manifestation of poor leadership from European capitals, because this behaviour has merely served to panic markets further. In this crisis, Ms Merkel has swung from preaching a hard-line refusal to bail out weaker eurozone members to demanding radical action to avert disaster. This week she warned that "the euro is in danger", only for the French Finance Minister, Christine Lagarde, to pop up and argue the precise opposite. It is small wonder the markets are alarmed.

Europe as a whole needs to get a grip. But it is Germany, the eurozone's economic giant, which faces the biggest responsibility. Berlin must decide whether it is truly prepared to do what it takes to defend the integrity of the single currency. This will not stop at the bailout fund. Germany is going to need to develop a plan for the weaker nations to restructure some of their debt. Doing so will force German banks to take losses, and might well necessitate another taxpayer recapitalisation. Then Germany will need to take measures to increase demand in its own economy so that the peripheral nations of Europe have an opportunity to grow their way out of their plight. Germany can keep its present economic model, or it can keep the eurozone. It is increasingly apparent that it cannot keep both.

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