Dominique Strauss-Kahn’s likely replacement as managing director of the International Monetary fund by Christine Lagarde, another French Finance Minister, has highlighted an awkward reality – Europe’s predominance over the world’s foremost international financial institution.

Not only has a European, by tradition, always been appointed managing director, but Europeans have also dominated the IMF’s executive board, which oversees its day to day management. Together, the member states of the European Union account for 31 per cent of board votes, despite forming just 20 per cent of global GDP in purchasing power parity terms (figure 1). Even after a major quota reform approved last year, demands for reallocation are likely to continue as Europe’s relative economic clout continues to decline in the twenty-first century.

1. Share of IMF Votes and Share of Global GDP, Selected Countries

Based on current allocations. Allocations are reviewed every five years, and will change again in 2012.

That leaves many top European diplomats asking: how can Europe preserve its influence in a reformed IMF, while ceding place to emerging powers?

One suggestion, favoured by many EU commentators, is for Europe to pool its votes, either into a single European Union bloc or simply one eurozone seat. A single European chair, it is argued, would equal the United States, possess veto power, and massively outweigh any emerging power on the board.

However, such a change is more likely to accelerate than prevent European decline. By forming a single director, the proportion of European votes would have to be massively downgraded, perhaps to a similar level as the United States (16.8 per cent). Europe’s more visible position could increase resentment among other countries, while IMF policies would become associated with Europe rather than with America, the current largest shareholder. Even more importantly, it would dramatically undermine the degree of Europe’s actual voting power inside the organisation, by rupturing the carefully woven patchwork of voting alliances built up by European member countries.

Such alliances are crucial to the maintenance of European influence. While EU members formally account for an already sizeable 31 per cent of the shares, their directors can cast up to 36 per cent of the votes. This is because by statute the IMF’s executive board has only 24 directors, obliging smaller countries to donate their votes to other countries around the table, with middle-size European states being among the most trusted allies. The Netherlands, for example, typically casts votes on behalf of a bloc including Israel, Armenia and the Ukraine; Italy casts the votes of Greece, Albania, and Malta; and Belgium has traditionally cast votes for a smattering of countries including Turkey and Belarus.

This diplomatic clout is a perfect example of European ‘soft power’, in that no-one dictates that the Ukraine must entrust its votes to the Netherlands, or East Timor to Italy. The Ukraine could just as easily join with Russia, if they so desired, and East Timor could well support Indonesia. Yet because Italy and the Netherlands are seen as peaceful and constructive partners – in common with select other countries such as Canada, Australia and Brazil – they are able to leverage their influence in this way. A dynamic network of bespoke alliances allows Europeans to increase their dominance, while masking the full extent of their control.

The scale of the diplomatic ‘leverage’ granted to smaller European states, measured in terms of the ratio of the total votes they cast (including those ‘given’ by other countries) to their official quota, can be considerable (figure 2). Belgium, for example, leads a group representing almost five per cent of the IMF vote share – some two and a half times their original quota of 1.86 per cent, and almost ten times their proportion of global GDP. The Netherlands is close behind, by more than doubling its votes from 2 to 4.5 per cent, and Switzerland, a non-EU country, is likewise comparable.

2. Who’s Popular? Diplomatic ‘Leverage’ in the IMF (share of total votes, including those donated by other countries, over original country allocation)

Selected countries, based on current quotas and constituencies, showing all countries with positive leverage. Countries that only represent themselves are at 1. Spain rotates a director with countries whose voting rights are lower than its own, and is therefore below 1.

Consolidating such alliances is a far better means for Europe to maintain its influence in the century ahead, than forming a single looming bloc. For in the playground politics of international diplomacy, Europe remains the trusted intermediary, and will become more so, as European states become ever smaller and less threatening. As the joke goes, in future there will be only two kinds of country in Europe – those that know they are small, and those that do not. And ironically, as long as others believe Europe to be weak, it may not be as weak as it appears.

[This article originally appeared in E!Sharp, as How Europe Can (Still) Run the IMF in the Twenty-First Century].

After initial excitement that the resignation of Dominique Strauss-Kahn might lead to an emerging market candidate to follow him as head of the IMF, Europe has placed its seal firmly upon a successor – Strauss-Kahn’s own distant replacement as French Minister of Finance, Christine Lagarde.

At first glance, the insistence on a European candidate may seem odd. After all, even if the shareholders of a major company, such as Louis Vuitton, all come from a particular area – say, the western suburbs of Paris – they would be crazy to insist on having a CEO from the same neighbourhood. Their interest lies in finding the most competent person for the job. They are likely to search far and wide to find that person.

A similar logic may apply to the IMF, where European countries already have the lion’s share of the votes. Whoever becomes managing director will be responsible to Europe’s directors on the Board, so why insist on having a European to serve them?

The real reason, of course, is political. Europe needs a European to run the IMF, because in the absence of easy credit from the International Monetary Fund, the euro area is politically incapable of arranging and taking responsibility for its own eurozone rescue package. Moreover, even if it were thus capable, many believe that it is not in the best interests of the eurozone to do so.

Let us unpack this a little further. The need for a European to shepherd through easy credit is simple enough: most of the IMF’s lending is now in the European neighbourhood, including also non-eurozone countries such as Hungary, Ukraine or Iceland. The IMF package for Greece, at €30bn, was already the largest in its history, and the package for Portugal, approved last week, added another €26bn. A similar package for Spain could add over €100bn. Italy could be twice as large still. These are vast amounts, and will be hugely controversial if and when they arise. A non-EU director might not be inclined to jeopardise such sums.

Yet why cannot the eurozone arrange its own bailout mechanism? After all, rather than rely on the IMF for financing, Europe could very well establish its own “European” monetary fund, funded by Germany, France, and the Netherlands. Indeed, this is in part what the EFSF and the future ESM are intended to accomplish. However, as I have discussed long ago, the reality of a “European” Monetary Fund would spell death for the project of European integration. It would mean core European nations taking direct responsibility for implementing austerity policies in the eurozone periphery, and taking the resultant political flak. EU nations simply do not have the ‘political capital’ to dictate harsh spending cuts in neighbouring countries, unlike the IMF, which does so as a matter of routine. By shifting surveillance of austerity packages during their most difficult period to the Fund, the core Eurozone countries are able to continue dictating the agenda, but via the front of an international organisation with greater credibility, manouverability, and anonymity.

But what about simply allowing Greece and Ireland to default? After all, under the present Eurogroup and IMF packages, Greece and Ireland can neither pay off their debts, nor default on them, and are thus maintained in permanent debt servitude. Is this not a terrible policy failure?

The answer is no, insofar as these packages were never designed to save Greece and Ireland in the first place. Rather, their purpose is to save the eurozone banking system from collapse. The key beneficiaries of this long, drawn-out process are Dexia, BNP Paribas, and Commerzbank, and behind them, the French and German governments who currently insure their losses. Everyone knows that eventually, Greece and Ireland will have to default, but if they do so in two years time rather than today, then this gives eurozone banks enough time to transfer their assets to the European Central Bank, while shoring up their capital base ahead of the impending haircut. Leaving aside the problem of ECB recapitalisation, this means the contagion effect will be minimised: at the very least, it will not least to the wholesale meltdown that would have occurred if a default were effected today, say, or last summer.

Europe therefore needs a European to run the IMF: but not for reasons of competency, or familiarity. Rather, it is because the eurozone is incapable of fixing its own problems, and requires a candidate pliant and willing enough to take the controversial decisions needed for the currency bloc’s survival. Even, one might add, if such decisions may be perilous for the IMF itself.

The blogosphere is abuzz with the news that yesterday afternoon, Dominique Strauss-Kahn, the Managing Director of the International Monetary Fund a and leading candidate for the French Presidency, was arrested in New York on charges of sexual assault and attempted rape.

What are the implications for Europe and the world?

1. First, this may be the end of western control over the IMF. By convention, the head of the Fund is a European, while his deputy is American. Until recently, it was assumed that Dominique Strauss-Kahn would be succeeded by Gordon Brown, but the latter’s candidacy was torpedoed last month by his successor David Cameron. A number of qualified replacements are at hand, including Kemal Dervis, the former Turkish finance minister, and Mohammed El-Erian, the chief executive of Pimco.

In order to retain their own influence, the Americans may still support a European successor. If it goes to Brown this would be very ironic, given accusations that he violently mistreats his staff. If it goes to Dervis, his Turkish nationality will add an interesting flavour to Greece-IMF negotiations.

2. Second, things are about to get a lot more awkward for Greece, Germany, and the European banking system. Strauss-Kahn was due to meet today in Germany with Angela Merkel in order to discuss reform of Greece’s bailout package. While the day-to-day matters can continue without Strauss-Kahn, the big issues – alterations to interest rates, the structure of any default, the involvement of the Fund in the current Portuguese package and contingency plans for Spain – all require intense high-level negotiation. Strauss-Kahn was intimately involved in all of these areas. Moreover, were he to become President of France, he would have become the leading statesman in Europe at the time when key eurozone reforms were to be implemented in 2013.

3. Finally, on both the French and the international stage, “DSK” was a big beast. It is difficult to imagine that, in a time when the financial system is tottering and der Spiegel alleges secret plans to break up the eurozone, he would have been piffering around by trying to reintroduce border controls. The next president of France seems likely to be either one of political pygmies from within the PS, or the one who currently resides in the Elysée. The prospect of inspired internationalism in Europe just took a great step backwards.

A second question is: what explains this surreal story? If it is true, why would an esteemed politician engage in such reckless behaviour, and if it not true then what exactly did occur?

1. Some are dismissing the the story as an exaggeration, but if so, an exaggeration of what? If any one of the minor details that have made it into the press thus far are true, then this remains a major scandal. It seems unlikely his political career will survive these events.

2. One theory I have heard, is that if the accounts are indeed true (and the facts remain very unclear at this point) then Strauss-Kahn may have falsely believed that he possessed diplomatic immunity. As members of the UN system, IMF staff do indeed have immunity from prosecution, but this exemption has not yet been recognised by four countries – North Korea, Iran, Russia and the United States. Things might have ended differently were the events to have occurred in Brazil or Canada. Meanwhile, of course, were Strauss-Kahn still in his old job as French Finance Minister, then he would indeed have immunity while in New York as his status would be that of a diplomatic visitor. He might have still been held for questioning, but the case would have been resolved politically… and possibly quietly.

3. Another theory doing the rounds – especially in the French media – is that the operation was some kind of bizarre ‘sting’ by his political opponents, with the long knives of M. Sarkozy somehow implicated. Much suspicion surrounds the fact that an activist in Sarkozy’s UMP tweeted the news 10 minutes before the arrest in fact occurred, and that this was then retweeted by Sarkozy’s former internet campaign manager before the press had even broken the story. Yet this would imply that the entire allegation were made up, and if that were the case, we would have seen a much more forceful counteroffensive on the behalf of the defendant by now. The first rule of smear campaigns is to kill the story immediately. By contrast, the silence is growing very loud.

While the Japanese have been doing their best to overcome one of the worst natural disasters of their history, they have received little help from the west, which seems merely intent on sowing panic and hysteria.

EU Commissioner Gunther Oettinger wins the panic prize, declaring yesterday that ‘in the coming hours there could be further catastrophic events, which could pose a threat to the lives of people on the island’ and that the situation was ‘out of control’. It was later revealed that these remarks were based no new information – but not before they had caused a small crash in Japanese stocks and a legitimate rebuke from the Japanese government.

Meanwhile, despite the assurances by almost every scientific professional that a Chernobyl-style explosion is impossible due to the absence of carbon in the reactor design, western governments have been competing to outbid each other with pointlessly hysterical advisories.

Yesterday, the US government extended the exclusion zone to 80km, citing a ‘deteriorating situation’, despite the fact that radioactive emissions from Fukushima had been falling for the past 24 hours. The UK government quickly followed suit, assuming that the Americans must know something everyone else (including the Japanese) do not. They would have to know something pretty scary. After 25 years there is still no evidence of public health risk 30km beyond Chernobyl.

The French also took an early lead in stirring meltdown fears. They were among the first to offer free ‘evacuation flights’ from Japan on Tuesday. Not to be outdone, the UK followed with its own request for nationals to leave the Tokyo area, and today the US has started a chartered plane service to evacuate citizens from Japan.

Some sense, at least, came from a press release came this morning from the Italian embassy in Tokyo. After conducting a spectroscopic test on the rooftop of their embassy, levels of radioactive content were found to be one-third of the ordinary level in Rome. In short, it will take a very sustained emission from Fukushima, before Italian nationals to face anything like the risk they face on arrival back into Roma Fiumicino.

Such results make one thing very clear. Foreigners fleeing Tokyo this week are pathetic, and should be ashamed of themselves.

One must wonder, however, why western governments are so intent on stirring hysteria. Is it to assist the 24-hours new cycle? Or can it be any coincidence that the three governments doing their utmost to prolong the panic into the weekend – France, Britain and the United States – are precisely those facing the greatest embarrassment over their cack-handed handling of Libya?

Amidst the commentary on the incredible protests breaking across the capitals of the Middle East, one of the most common reactions is that of suprise; European commentators seem genuinely startled to discover, that on their southern frontier there are peoples, equal in number to themselves, ready to stand, and be counted.

In many ways, however, our surprise is not surprising. For most of Europe’s modern history, the Arab world did not ‘exist’ – at least, not in the same way as India or China. By 1700, the ratio of Europeans to Arabs in the world stood at 6 to 1. By 1920, at the time when the British and French Empires had divided much of the region among themselves, the ratio had reached 13 to 1: that is to say, for every Arab in the world, there were 13 Europeans. The Middle East ‘existed’, therefore; but much in the same way as Canada, or Australasia: a large and empty land, beautiful, bountiful, and ripe for conquest. It is in this light that one can comprehend why the French thought it feasible in 1830 to annexe and colonise Algeria, or why, a century later, European Jews could attempt much the same in British Palestine.

The scale of the change since that time has been staggering. In 1920, the population of the Arab world was some 42 million, the same as the France of that era; today, it counts some 350 millions, equal to the entirety of western Europe. By 2030, the Arab world will be equal in size to the total of both western and eastern Europe combined (see figure above). While from one perspective, the Arab world may be considered an ancient civilisation, from another, therefore, it is brand new; as new, perhaps, as the United States or Australia.

The west has never come to terms with this new reality, this teeming mass on its southern flank. Despite much that has been written, by Edward Said and others, about the ‘Orientalism’ of the nineteenth century European imagination, the truth is that the Arab world has never been much of a feature in our intellectual landscape. We have never really had to think about the Middle East as anything more than a vast land rich with natural resources for the taking, and for much of the twentieth century we could manage it as such, first under colonial officials, and then under the makeshift monarchs and generals we have installed or supported in their place.

Today, the old structures are broken; and an Arabian society is being born. It is there: a mirror image of ourselves, a mass of 350 millions taking shape like our reflection in the Mediterranean ocean. How will Europe deal with this new creature, the multitude of once invisible peoples who have filled out the unfinished concrete slums of Cairo, huddle in the packed streets of Gaza, and mass at the mosques of Mecca and Medina?

While there are some worthy initiatives, such as the Alliance of Civilizations, I suspect events will outpace our attempts to manage them. The fate of the one genuinely European project, the now stalled Union for the Mediterranean, already offers a bad portent for future attempts to deal with migration, integration, and the stability of the Levant.

Around this time last year, I did something that commentators are frequently advised not to do: I made predictions of how events in Europe would unfold in 2010. As a year has now passed, it is time to take a look back and briefly take stock of how those fared.

• Prediction 1) For the first year since 2005, the EU will not face a legitimacy crisis. There will be no constitutions to discuss, and no referenda results to be picked over by the press. The day to day business of Brussels will turn to unedifying ‘guns and butter’ topics. Well, I don’t know about guns. But butter, certainly. And thanks to the Icelandics, maybe fish too.

Whoops. At this point, I think I will simply give up predicting crisis-free periods for the EU. 2010 will of course be remembered as another crisis year – the ‘eurozone crisis’ – which we can add to the 2009 Lisbon crisis, the 2008 ‘Irish referendum’ crisis, the 2005 French and Dutch referenda crisis and so on. Was it a ‘legitimacy crisis’?  That’s an academic point. EU crises occur with such a regularity these days we will probably have to start grading them on a Richter scale, so as to distinguish the earth-shattering from the merely wibbly-wobbly.

• There will not be a eurozone member debt default, but driven by sovereign debt concerns, the rising run of the euro, which has lasted from 2002 to date, will finally come to an end. During the coming year the single currency will break below 1.40 against the dollar, perhaps even plumbing towards its 1.20 purchasing-power-parity value.

But on the euro, at least, I can feel pretty vindicated. There wasn’t a default, but the euro did indeed plummet, and my target of 1.20 to the dollar (reached during the May crisis) almost exactly marked the bottom. What I did not forecast was that the euro would subsequently recover all the way back to 1.40, though I did highlight the long-term value of the euro in the midst of the panic, and acted accordingly. Whether the long-run positive trend against the dollar has really turned: now that is another question, to which I’ll have to return.

• As governments set about implementing austerity measures, eurozone economic governance will become more contentious. There are still no agreed upon rules to replace the defunct Stability and Growth Pact. I suspect this will lead to a smouldering conflict between the ECB (backed by Germany and the Netherlands), who wish to maintain a strong currency so as to keep building its long-term credibility as a global reserve currency, and a motley group of politicians (possibly a coalition of southern European states spearheaded by Nicolas Sarkozy) who wish to have a weaker currency and weaker fiscal rules so as to promote domestic demand and export-led growth.

Once again, I think I can say that I called this right. Conflict in the European Council over the eurozone’s economic governance has surely been the issue of 2010. What I did not perhaps entirely get right was an assessment of how the alliances would form, as instead of standing up for a more reflationary policy, France has begun to sidestep the debate, allowing Germany and the Netherlands to impose a more austere set of rules, and leave Spain and Italy without any voice to propose an alternative. Nonetheless, during the May crisis it was France which forced Germany to accept the creation of a Eurozone Financial Stability Facility, and the Financial Stability Mechanism that allow for the purchase of peripheral eurozone bonds, as Sarkozy famously slammed his fists and huffed about pulling France ‘out of the euro’ unless Merkel signed the Greek package.

• The economic tendency of the euro’s first decade, where ‘peripheral’ members (Ireland, Greece, Spain, Finland) grew rapidly and ‘core Europe’ (France, Italy, Germany) stagnated, will likewise come to an end. Consumer and corporate deleveraging, not to mention government austerity, will lead to painful year-on-year adjustment in the peripheral countries while core Europe surprises to the upside.

Again, I feel vindicated here, as it certainly wasn’t obvious in December of 2009 that Germany and France were on the verge of an economic mini-boom, with German GDP having rocketed upwards by 3.7 per cent this year. Perhaps it was more obvious that the eurozone periphery had a difficult period of adjustment ahead, though I’m not sure how many people foresaw that Greece and Ireland would still remain mired in recession. Though it isn’t much of a surprise prediction at this point, I still believe this is the beginning of a very long trend, possibly lasting a decade, in which the core eurozone continues to outperform the deflating periphery.

• When the first Council meetings are chaired by Van Rompuy next year and when Ashton starts shuttling off for mediations in Moscow or Tehran, their roles will actually be taken seriously. Currently they are written off as irrelevant. But they have not actually begun. So I suspect that by the end of 2010, journalists will at least have learnt how to pronounce ‘Van Rompuy’ correctly (and perhaps decided whether to call the new High Representative ‘Baroness’, ‘Lady’, or simply ‘Cathy’).

Alas, I may have to retract my words here, as 2010 did not allow either of the new EU roles to clearly define their purpose or function: instead, post-Lisbon Europe has clearly emerged as a Europe of nation-states, and the key personalities remain the heads of state and government, not least of all Angela Merkel and Nicolas Sarkozy. The High Representative role has remained tied down with bureaucratic legwork, like getting the approval of the European Parliament, finding offices, and making appointments, while Van Rompuy has not been as prominent a figure in the eurozone’s economic governance agenda as the Heads of State and Government, or, for that matter, Jean-Claude Trichet.

• The looming prospect of budgetary cuts across all EU member states will lead countries to take defence cooperation more seriously — if only as a means of ‘doing more’ (or rather, the same) ‘with less’.

Defence cooperation, however, has indeed been a breakthrough trend of 2010. Its most prominent instance has been the decision of the British and French governments to share their nuclear capacity, aircraft carriers, and start a joint expeditionary force. The deal agreed between Mr. Cameron and M. Sarkozy last month surprised many: but not myself, driven as it was less by a commitment to the European ideal than a desire to cut public spending. A separate proposal, reached between Germany and Sweden a month later, may lead to a similar deal next year, and be the first of several such treaties between EU member countries. The only question now is whether such bilateral negotiations will be superseded by any EU-wide collaborative ventures, which seems unlikely as long as they remain blocked by the British.

• EU integration in the western Balkans may make a surprise breakthrough after years of stasis. Macedonia, Serbia and Croatia will all be on track for eventual EU entry, leading to hopes the whole region may eventually follow suit.

We didn’t see either a starting date for accession negotiations for Macedonia, or an entry treaty for Croatia, as I had expected – though on the plus side Montenegro was last week granted candidate status. Also, visa-free travel was finally granted to residents of the entire western Balkan region (with the exception of Kosovo) as from this month Albanians and Bosnians can travel freely throughout the Schengen zone – a development that may be of little note to existing EU citizens, but that will transform the lives of those stuck in Europe’s “forgotten” southeast.

• Europe will be ‘on track’ for a transcontinental high-speed rail network. With the completion of the Italian and the Spanish high-speed networks, only two remaining links (Turin-Lyon and Barcelona-Montpellier, both expected sometime in the next decade, though construction at least may begin 2010) stand in the way of a full north-south network running from Madrid to London, and back down again from Amsterdam to Naples.

This wasn’t much of a prediction for 2010, as much as a general outlook for the future, as none of the lines I mentioned were meant to be complete by now. Some new developments include the start of high speed trains direct from London to Germany, a faster connection to Amsterdam, and the completion of the first ‘arcs’ of the Eastern network, including  Helsinki-St-Petersburg, opened this month. Ground has also been broken on the Lisbon-Madrid line, which will eventually connect through to Paris, London and Brussels.

• Finally, Brussels had better enjoy the ‘business-as-usual’ atmosphere while it lasts. The most likely origin of the next institutional crisis, which I predict not for 2010 but shortly thereafter: the UK, where an incoming Conservative government this May will be torn between moderates who wish to remain members of the EU and sceptics who are firmly set on the exit door. These divisions will remain hidden as long as the new government’s honeymoon lasts, but break out not long afterwards – in particular when it becomes clear that à la carte membership is not on the menu. Those who doubt this need only recall the cantankerous atmosphere of the mid-1990s — and this time British public opinion is far more hostile than then.

Well, here I think I was utterly wrong. The surprise of a coalition government in the UK, with the ‘Tory Wet’ (sorry, Liberal Democrat) Mr. Clegg joining the rather dry Mr Cameron in government has taken the edge away from traditional British euroscepticism, and instead produced a government that prefers to kick the Europe issue as far as possible down the line. Still, my original prediction was ‘not for 2010 but shortly thereafter’, and I suspect that it may still be right, as some of the coalition fissures continue to fizzle under the surface.

I am currently considering whether to revisit this foolish enterprise again for the coming year. In the meantime, what predictions would you have for 2011? Feel free to post your ideas below.

In recent years, the German government has been very keen on attacking hedge funds. It all started in 2005 with Müntefering’s “locusts” diatribe, and the current Finance Minister Wolfgang Schaeuble has kept up the act, most recently by demanding that funds be placed “under surveillance” by intelligence agencies. Yet, observing German government behaviour over the last year, I cannot help but wonder whether, in their hedge fund obsession, maybe they have learnt some tricks of the trade.

Where to start? First, among the activities of hedge funds that attract them so much public ire is accelerating a bond panic, say by short-selling sovereign debt, and then surreptitiously buying it back at vastly reduced prices, once the panic has run its course. As data from the Chicago Mercantile Exchange shows, speculators went massively short the euro in January, and Greek debt in particular: yet by the end of summer, just as ordinary investors had sold out their positions in terror of an impending eurozone ‘collapse’, institutional investors had piled quietly back in.

Whether by accident or design, Berlin has got a similar deal with its own eurozone crisis lending. In late 2009, as it became clear that Greece had falsified its accounts and would be in need of a bailout, the new government announced emergency cuts and canvassed support from potential lenders. After a slow-motion crash which saw bond yields spike 7 months later at 12 per cent, EU member states finally agreed a lending package that would allow Greece to borrow from other members at a reduced rate of 5 per cent.

Yet many forget that in late 2009 , the yield on Greek 2-year bonds was still 4 per cent, and that the real loss of confidence only occurred in February when Germany blocked other eurozone states from finalising an EU ‘bailout’ mechanism and France blocked Greece from turning to the IMF. Had Greece been allowed to go straight to the Fund, the country could have borrowed at a 3 per cent SDR rate. EU member states, led by Germany and France, precipitated a crisis that has allowed them to force out of Greece a rate of return a good margin greater than what the country might have received elsewhere. This is the kind of trickery that would earn any hedge fund manager a very healthy end-of-year bonus.

Likewise, there is also a strange parallel to be found in the financing of major investment banks, and Germany’s involvement in the new European Financial Stability Facility (EFSF). Perhaps one of the most subtle and odious practices since the financial crisis has been the way that banks have recapitalised by borrowing unlimited amounts from the ECB and the Federal Reserve, at interest rates you or I cannot access, and built back their balance sheets (as well as maintain their salary structure) by lending out at higher rates to companies and to governments (though in the eurozone, primarily to distressed governments). Strangely, via the EFSF Germany, along with its other contributors, looks set to profit from a similar kind of debt arbitrage. In order to pay for its contribution, the ESFS is expected to issue bonds at 3.5 per cent, and then lend the money to countries like Ireland at a final rate of 6 per cent; if Germany receives compensation equivalent to its €120bn guaranty, debt arbitrage will pocket Berlin an additional €4.4bn a year – a cumulative 400 euro windfall for every man, woman and child in Germany over the next ten years! And this the policy for which German voters are apparently outraged. Many of course remain under the sad delusion that Germany has actually given money to Ireland, rather than simply written insurance on a loan.

I know the German government response would be that these loans will be very risky, and in the event that Ireland or Greece has to default, the German taxpayer that will foot this cost (though I calculate a huge haircut of around 25 per cent would be required for this ‘Bund-EFSF arbitrage’ to turn a loss). They also might say that issuing guarantees to Greece, Ireland and so on forces up the cost of their own debt refinancing, though the evidence is mixed so far. And I know that finally they might reply that if Germany and other eurozone governments did not step in, these countries would not find institutional investors for their loans, and could face a paralysing default. Even here I am not so certain, as in addition to the IMF, China’s two main sovereign wealth funds have about $700bn in total assets under management, the Russians have at least $150bn, the Abu Dhabi Investment Authority about $600bn, Saudi’s AMA has $431bn, and Libya has another $70bn lying spare. Some assortment of these countries might be prepared to bail out Europe’s little sovereign defaulters, if they agreed to rent out their foreign policy for a few years.

So in exacerbating crises from which they subsequently profit, are Germany and France behaving like ‘hedge funds’? I, myself, am not cynical enough to believe that they would collude to extract a tough deal simply for their own benefit. But I am realist enough to know that, unless concessions are offered further down the line, many voters in Dublin and Athens will start to see it that way.

I was recently sent an article written by Vaira Vike-Freiberga, former candidate for President of the European Council, which includes a couple of interesting comments on the vexed topic of Europe’s leadership – or lack thereof. Among these are the views that, first, the current crop of European leaders are little if at all worse than those of preceding generations, and second, that the purpose of the European Union ought to be to make the need for such ‘transformative leaders’ redundant, by replacing the rule of whim with the rule of law.

Such remarks are a breath of fresh air for those who have been inhaling (or in my case, exhaling) daily invectives against Europe’s supposed ‘leadership deficit’. For what, let us consider, would correcting such a deficit really require? Leadership requires that some degree of decision-making capacity be concentrated in the hands of a single individual, which is obviously not true of the European Union at present, with its two ‘presidents’ and all-powerful Council. Yet such a derogation would only be justified if we believed that there were certain individuals endowed with sufficient insight and knowledge to know better than a group of their peers; and that political institutions might exist which reliably place such individuals in power.  Presidential democracies are based precisely on such a faith. That faith is routinely betrayed, as incumbents inevitably reveal their human flaws and weaknesses.

In a well-ordered polity, it is not individuals, but rules, and organisations, which must govern. Rules, because in the absence of a beneficent leader whose informed whims prove consistently correct, it is upon tested principles that we must rely; and organisations, because a collective of individuals, serving in committee, is more consistently just than any single individual proves likely to be.

Yet this is oddly close to post-Lisbon Europe as it stands. Like the Swiss Federal Council, the European Council functions as an executive committee, to which the most important decisions must be referred, while the European Union’s routine decisional powers are intentionally split across specialised agencies, such as the European Central Bank or the European Court of Justice, whose judgements concerning human rights or monetary policy will not be improved by political interference. We have created strong institutions, so individuals need not be.

I know that some are finding this form of governance frustrating, and I share their frustration. It is slow moving, not particularly transparent, and the heroes and villains are impossible to identify; in short, it does not make for good news copy. But, in this regard the European Union is hardly alone in the world. Who, for example, can say much about the ‘leadership’ of China, Japan, or Singapore? They are no less opaque, consensual, or gradualist in style. Yet in these polities, it is fair to say that ruling committees, civil servants, and special agencies are perhaps able to develop more intelligent policies than a single ‘leader’, elected or otherwise, would have been likely to accomplish. Indeed, within living memory the Chinese and Japanese have learnt that lesson well.

More generally, we must be careful not to fetishise ‘leadership’, for the degree to which individual initiative is replaced by specialisation and the separation of functions is often a mark of the maturity of a polity. In well-functioning parliamentary systems, such as Sweden or the Netherlands, leadership is largely aesthetic, epiphenomenal, an after-effect. Prime ministers do not decide policy proposals, but receive these from think-tanks and advisers; they do not draft their own speeches, but have writers for this; they do not formulate policy implementation or the negotiating position of their country at international meetings, for these civil servants are tasked. Prime ministers act more as a chief spokesperson or press officer than a ‘leader’ as such, just as the monarch forms a symbolic figurehead for the nation as a whole. Such is the mark of a high quality of government, upon which the inhabitants of a France or Italy, for example, might regard with envy.

Meanwhile, where institutions give the possibility for real leadership, they typically lead to systemic policy failures. I do not wish to dwell excessively upon the problems of the United States, not least of all as in many respects the political system there does exhibit many positive attributes of specialisation and delegation – for example in the way the Federal Reserve is granted relative autonomy from executive or Congressional influence in order to execute its mandate. And yet, many areas, and notably foreign policy, remain the prerogative of the executive and his clique, and thus are subject to repeated diversion and error. This is not a coincidence, but an outcome of any political system where the objective of political participation is to elect a king, rather than assist in forming a government.

Why should Europe ever have sought to emulate the imperial presidency, for example by having a ‘presidential’ leader of the Council, when there are better models to be found in other parts of the world, not least within our own continent? And yet the charge is repeated, and repeated again, that Europe lacks leadership, and needs a stronger hand to guide it through. It is time to leave such delusions by the wayside. Politics, as Max Weber famously wrote, is a ‘slow boring of hard boards’. This may not be to the aesthetic taste of many, and it may not sell newspapers or inspire the imagination. Yet in the long run, it is, sadly, the only system we know that really works.

Something of a controversy was stirred two weeks ago, when Charles Kupchan declared in a Washington Post editorial that Europe was ‘dying’ of nationalism. His argument earned a surprise rebuke from Italian President Giorgio Napolitano, who was speaking at the Ambrosetti Forum, but his evidence is not so easy to dismiss. From German reluctance to a eurozone ‘bail-out’ to French demands to renationalise migration policy, national governments seem more and more willing to challenge Brussels.  And if the exit polls are anything to go by, this weekend tolerant Sweden is about to join the list of EU member states with at least one radical right party in parliament.

But has nationalism actually been rising across the EU? The survey data would suggest that it has. Since the early 1980s, the World Values Survey has been asking respondents across Europe and the world how proud they are to be from their country. Since then, the proportion of respondents offering the maximum response, ‘very proud’, has been rising in most countries and sometimes rising quite sharply.

Given that the question is pride, rather than nationalism, perhaps the implications for European integration are fairly benign – after all, one can be a patriotic Swede and still believe in European solidarity. Yet a glance at the country ranking suggests a different conclusion. The countries at the core of the European project – France, Germany, Italy and the Benelux – are the least patriotic, and the ‘problem cases’ – such as Poland, Britain or Iceland – are where pride is strongest.

If there is a trend of rising nationalism, there is also a paradox. All the data show that Europeans travel more, work across borders, study abroad, and have more social contacts from other countries than was the case a generation ago. And yet, for all that, the borders in our minds are more firmly sealed than ever.

Does Europe need more democracy or less? In the late-18th to mid-19th century, the grand intellectuals of the era, such as Voltaire and Georg Wilhelm Friedrich Hegel, also felt that Europe needed to overhaul its creaking system of governance. However, they were afraid of strengthening the role of parliament, fearful that this might further entrench the noble and clerical elites who most opposed liberal reform.

Instead, their favoured solution was despotisme éclairé: enlightened despots whose absolute power could push through progressive changes by decree. Napoleon Bonaparte may be the most famous such figure, but other examples included Prussia’s Frederick the Great, who eliminated use of torture and capital punishment, Joseph II of Austria, who eased the oppression of the Jews, and Catherine the Great of Russia, who reduced many of the taxes and tariffs preventing free trade and enterprise.

Fast forward to today, and I wonder whether anything has changed. Europe urgently needs to reform its economy, protect the rights of migrants, and open to foreign trade and investment, yet the scale of these tasks exceeds the petty provincialism of Europe’s peoples and their Lilliputian politicians. Popular parties in the Netherlands or Hungary call for the expulsion of hard-working newcomers, religious liberties are under threat, and even mainstream politicians in Britain and Germany indulge the tabloid taste for base economic populism.  Is this the ‘democracy’ of which Brussels apparently requires more?

I realise this will sound elitist. But then, the EU is an elitist project, and many of its achievements have been attained, not only in the absence of, but directly in confrontation with popular sentiment. The reconciliation between France and Germany would not have occurred had the choice been given to ordinary French men and women, many of whom in the 1940s still favoured the pursuit of war reparations. The abolition of the death penalty across the EU’s 27 member states flies in the face of opinion polls showing a majority in its favour across most new member states, and until recently even in Britain. And equal rights for ethnic and sexual minorities were made law in central and eastern Europe against the overwhelming tide of public opinion.

Is this a problem for a liberal-democratic approach to government? I do not think so. Liberty and democracy often come into conflict, and like the German or US Constitutional and Supreme Courts, the European Union has always been a liberal constraint mechanism, designed to prevent our peoples from descending into the tit-for-tat trade disputes, competitive devaluations, and human-rights violations that have characterised our not-too-distant past.

In the 18th century, Emperor Joseph II summarised his creed in the pithy statement: “everything for the people, nothing by the people” – which would also, it seems, prove a strangely apt slogan for the EU.

[Note: This entry was adapted from a recent commentary in E!Sharp. I had promised in my previous post to write an entry on prospects for a more open European foreign policy: I will postpone this to a future entry.]