September 28th 2011: German yes vote won't hide growing divisions
Although the actual outcome of Thursday’s vote is not really in any doubt, there will certainly be near-term relief if the coalition government can secure a majority for expanded EFSF powers without opposition support. The Euro would be likely to gain ground, in tandem with risk appetite, but gains are unlikely to last long given that the Euro-zone sovereign-debt crisis has moved well beyond being solved through more EFSF powers. There is likely to be a quick realisation that the vote actually solves very little.
The July agreement gave the EFSF additional powers to buy peripheral Euro-zone debt and provide additional support to the banking sector. The legislation needs to be ratified in all 17 Euro-zone member states before it can come into operation. Chancellor Merkel faces significant dissent within her own party and FDP coalition partner. In a trial vote on Tuesday, 11 of her own party voted against the bill and two abstained. Merkel needs 311 yes votes to secure a majority without resorting to opposition votes and rebels must be kept to below 20. Taking into account FDP votes, the number of rebels is likely to be close to the 20 threshold, although its always easier to rebel in a trial vote than the real thing.
If Merkel is forced to rely on opposition votes, the immediate impact could be limited, but it will create huge internal stresses within the government and could certainly force early elections which would be a further force for instability. It would also be a powerful victory for the voices of dissent and, with very heavy opposition to the plans within the electorate, it would certainly make it even more difficult to secure approval for further legislative changes.
This is extremely important, because additional EFSF powers may help buy the Euro-zone some time, but they will certainly not provide a solution to the debt crisis as the EFSF will not be able to contain the crisis. If the government fails to secure a majority on this vote, then the chances of securing approval for further and even more controversial measures to support weaker Euro-zone members would be extremely low which would sharply increase the risk of serial debt defaults.
If markets are hoping that a clear coalition majority will sound an all-clear for the Euro, they are likely to be sorely disappointed as the bar for further support will become progressively higher. The German constitutional Court has already effectively blocked the use of Eurobonds and it is highly unlikely that there would be coalition support for even more EFSF powers while Bundesbank opposition would be intense. The EU could try to bypass parliamentary scrutiny entirely, but this would trigger intense hostility within the German electorate with little chance that a weakened Merkel government would survive.
Even if the government can secure majority of coalition support and accepts the need for more radical action, it is unlikely that this could be done without calling a general election or referendum. A key problem with either of these options is that they would take additional time and have an uncertain outcome and the Euro-zone can ill-afford either of these.
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