German Parliament Approves European Bailout Fund in Crucial Vote

The German Bundestag (lower house of parliament) yesterday (29 September) voted in favour of boosting the European Financial Stability Fund (EFSF), a vote with ramifications for both the future of the European bailout fund and Germany's own domestic political situation. In the end, the bill was passed comfortably, with 523 MPs voting in favour, 85 against, and 3 abstaining. Crucially for German chancellor Angela Merkel, 315 of the 330 MPs from her Christian Democratic Union (CDU)/Free Democratic Party (FDP) coalition voted in favour of the bill, more than the 311 needed to pass a bill outright and overcoming fears that she would need to rely on opposition support to see the move through.

The successful passing of the legislation was welcomed by European leaders and the European Commission, with the vote supporting proposals put forward by Eurozone leaders on 21 July for an expansion of the EFSF from its current EUR250 billion (USD337 billion) to EUR440 billion (see Eurozone - Greece - Europe: 22 July 2011: European Leaders Agree Broad Steps on Greek Crisis and Contagion Risks). The proposals will also allow the fund to buy up bonds from struggling Eurozone countries and also provide loans to governments before the onset of a crisis situation. Germany's own contribution to the fund will rise from EUR123 billion to EUR211 billion, making it comfortably the most significant contributor. The EFSF is one measure being put in place to help prevent the euro from collapsing as a result of the sovereign debt crisis afflicting certain Eurozone member states. In addition, the European Parliament voted on 28 September to strengthen economic governance in the EU (see Europe: 27 September 2011: European Parliament to Pass New Rules on Economic Governance).

Merkel's Relief

Beyond the issues of Eurozone stability, perhaps the most significant aspect of the vote was its potential effect on Merkel's ruling coalition. Prior to the vote, much speculation in the German media had focused on a potential revolt within the coalition against the proposals, with prominent members from the chancellor's own CDU party openly speaking of their disapproval of the measures (see Germany - Europe: 2 September 2011: German Chancellor Faces Parliamentary Backlash over EU Financial Policy). The most disastrous scenario for Merkel, whose government has already suffered a series of setbacks this year in state elections, would have seen the number of coalition votes in favour of the EFSF proposals coming in under 311, meaning that opposition support would have been required to pass the measures. Such a situation could have severely undermined the chancellor and created serious divides within the already struggling coalition.

Ultimately, the vote was passed with only 15 coalition MPs voting against or abstaining, allowing Merkel some breathing space. Prior to the vote the chancellor had made strenuous efforts to assure MPs and the German public that the money provided to the EFSF would not be going to waste. She also included provisions in the legislation to grant the parliament greater involvement in decisions relating to Eurozone bailouts, a key demand by those who had voiced their opposition to the expansion of the fund. These provisions will include the creation of a special committee in the Bundestag to consider such issues.

Black Sheep of the Eurozone

The successful German vote now means that 12 of the 17 Eurozone members have voted in favour of strengthening the EFSF, with the parliaments in Cyprus and Estonia also voting in favour of the proposals yesterday.

However, there is not yet unanimous approval for the new proposals, with Slovakia the last Eurozone member state to remain undecided about EFSF support. Here, the future of the bailout mechanism has already caused significant divisions in the government.

Most of the Slovak parliamentary parties generally support increased powers and more funds for the EFSF, apart from the junior ruling Freedom and Solidarity (SaS) of Richard Sulik. Sulik argues that Slovakia—which underwent a strict austerity regime to fulfil the conditions for joining the Eurozone in 2009—should not be held responsible for the "irresponsible" policies of "richer" Eurozone members. Sulik argues that an increase in the country's EFSF contribution from EUR4.4 billion to EUR7.7 billion would be "a lot of money for Slovakia", further adding that the country should endorse the increase in the EFSF's powers but not invest any money in it. The SaS's 22 votes in parliament are crucial for the legislation's safe passage: the four-party ruling coalition has only a razor-thin majority, and although the main opposition party, Direction-Social Democracy (Smer-SD), supports the EFSF contribution, its leader Robert Fico has stated that Smer-SD will support ratification of the rescue package only if the coalition votes for it unanimously.

Slovak ministers have previously announced that Slovakia will be the last Eurozone member state to vote for the package. However, there is only a limited amount of time remaining as the country must make its stance clear before 17 October when the next EU summit is scheduled to start, at which EU leaders will discuss their views on the issue. Although Slovak politicians are believed to be working on a compromise, Sulik has repeatedly stated that he will do "whatever he can" to stop the bailout fund from coming to a vote in its current form. For the motion to pass, Slovak prime minister Iveta Radicova could therefore opt for the EFSF vote to be linked to a vote of confidence in the government. With the coalition's popularity decreasing and support for the Smer-SD at a historical high, the current formation—including the SaS—would have little chance of re-entering government should the government collapse and a snap parliamentary poll be held. However, despite such a threat, the EFSF vote—even if connected to a confidence vote—could currently go either way.

Outlook and Implications

Merkel's victory will help to ease some of the uncertainly currently in place in financial markets, but this is likely to provide only temporary relief. Yesterday's vote did lift the euro—which reached a one-week high against the US dollar—and also drove a significant narrowing of peripheral sovereign bond yields. Yet, even if the new powers to purchase bonds and recapitalise weak banks are approved by the remaining Eurozone parliaments—and the current situation in Slovakia makes this far from certain—at EUR440 billion the EFSF still does not have enough firepower to deal with a new escalation of the crisis. IHS Global Insight estimates that the fund will need to be boosted to four times this amount. The easiest way to increase the EFSF's firepower would be for it to issue more Eurobonds and to use these as collateral to access European Central Bank (ECB) liquidity or, as has been suggested, to use the EFSF as insurance for the first 20% of mark-to-market sovereign bond losses if the ECB steps up its sovereign bond buying programme.

Moreover, there are still concerns about Greece's failure to meet the targets agreed with its official creditors. Fiscal figures have been disappointing so far, while there has been a worrying lack of momentum on the implementation of structural reforms needed to improve the competitiveness of the economy. So far, Greece has pledged further austerity measures as a way to make up for missed targets. However, the government's fiscal room for manoeuvre is now seriously limited. Greece can be expected to receive the sixth tranche of the EUR110-billion bailout in October, but approval for future disbursements will be difficult to obtain if no progress on the implementation of the austerity and reform programme is evident.

From the German domestic perspective, the passing of the EFSF bill is also likely to provide Merkel with only temporary relief. The issue of German support for other Eurozone members with such significant amounts of money remains highly controversial in Germany. In addition, the Bundestag will also vote on whether to support a potential second bailout package for Greece in the coming weeks, while in early 2012 it will vote on the European Stability Mechanism (ESM), designed as a permanent replacement for the EFSF from 2013. Considering the trouble experienced ahead of the EFSF vote, these upcoming debates are also likely to prove contentious and could add further pressure on Merkel's already shaky coalition.