The remedy for the European Union’s financial crisis, EU leaders have decided, is “fiscal union.” But if the agreement they reached last week ultimately leads, in the fullness of time, to a real fiscal union, the country most likely to be unhappy is Germany, its original leading proponent.

Truly, understanding the workings of the EU mind is not always easy.

Jens Weidmann, president of the Bundesbank and a council member of the European Central Bank, made the point about fiscal union and “fiscal union” last week. This is not a union but a “pact,” he said. Sovereign rights would be preserved, and the EU would have no power to intervene directly in a country’s finances. Euro-area countries are promising to obey stronger fiscal rules of the sort they already have in the Stability and Growth Pact, with new automatic penalties (yet to be spelled out) if they fail.

Weidmann is right. Stronger fiscal rules do not make a fiscal union. A real fiscal union looks like the United States - - with federal spending, federal revenue and federal debt.

The salient characteristic of such a system is cross-border fiscal transfers. When an economic shock strikes one part of U.S. with particular force, fiscal resources flow in its direction automatically. If California slumps, its contribution to federal revenue falls and federally supported spending in the state goes up. In this way, taxpayers in the rest of the U.S. help cushion the blow.

Transfer Union

A fiscal union in the proper sense of the term is a transfer union. Yet Germany’s government, which has pressed so hard for what it calls fiscal union these past few weeks, is implacably opposed to a transfer union. Shielding German taxpayers from the cost of supporting Greek, Irish or Italian taxpayers as this crisis has unfolded is the organizing principle of Chancellor Angela Merkel’s entire policy.

Is her position hopelessly illogical? I wouldn’t go that far. Germany’s leaders calculate, I imagine, that a strong fiscal pact will make a transfer union less likely. In this belief, they are not being illogical, merely delusional.

The fiscal pact’s main innovation is a so-called golden rule, which leaders have said they will write into their countries’ basic laws, restricting structural budget deficits to 0.5 percent of gross domestic product. Critics are right, of course, that this rule contributes nothing to solving Europe’s immediate problem. It barely even pretends to. Nonetheless it is a momentous step. Eventually, after the immediate crisis has been resolved, the golden rule will impose tighter fiscal restraint across the euro area.

Merkel doubtless reckons that tighter fiscal restraint will mean less public debt over the long term, less chance of a future sovereign-debt crisis, and less danger that citizens in well-run countries (Germany) might be asked to bail out citizens in badly run countries (all the others). The trouble is that fiscal irresponsibility is only one way to get a financial crisis started. If one starts for some other reason -- say, a credit boom -- flexibility in fiscal policy may be vital to contain the damage.

The current emergency demonstrates, in the clearest possible way, just how laughable Germany’s position is. Fiscal profligacy brought Greece to disaster, true enough, but the slump in the euro area’s other distressed economies was caused by reckless expansion of private credit. Taking the euro area as a whole, budget deficits were less than 3 percent of GDP in the five years leading up to 2008. Ireland, one of the most severely hit economies during the crisis, had a budget surplus for years before the crisis struck.

Needed: More Flexibility

For many countries, fiscal expansion was the right response to the emergency. And in Germany’s case, it still is: The problem there has been too little stimulus, not too much. The golden rule would restrict this vital flexibility.

Admittedly, one can imagine worse rules. A ceiling of 0.5 percent for structural deficits does allow so-called automatic stabilizers to work. In a recession, actual deficits would be allowed to rise under the pressure of a shrinking tax base and higher transfers to the unemployed, for instance. However, except for countries that had previously been running big surpluses, the golden rule would forbid a change in policy in response to an economic slump: a tax cut, say, or an increase in infrastructure spending, or extended unemployment benefits.

Germany’s structural budget deficit was 3.3 percent of GDP last year. Even allowing for what the Organization for Economic Cooperation and Development calls “one-offs” -- nonrecurring extraordinary items -- it was 2.3 percent. Under the circumstances, Germany’s fiscal policy has been extraordinarily tight, yet it stands in violation of the new rule. This is absurd.

A better fiscal rule would take a different form: “balance the budget over the course of the cycle,” or “keep public debt below 60 percent of GDP except in extraordinary circumstances.” Both of those allow more wiggle room, so Teutonic fiscal disciplinarians will recoil, but greater flexibility is the point. In severe recessions, discretionary stimulus -- a more-than-automatic fiscal response to the downturn -- is needed. And as the case of Germany itself proves, it may sometimes be unavoidable.

With the golden rule in place, the EU’s next economic crisis will be an interesting moment. The best and (let’s hope) likeliest course for the EU would be to suspend the rule or abandon it outright. That, presumably, is something Germany would resist. Why propose this rule in the first place if you are going to have to abandon it as soon as it starts to pinch? The alternative would be to let the pact stifle recovery and drive up unemployment -- much as the EU’s dithering has done in the present emergency, only more so.

Let’s suppose that Europe muddles through this time. Next time, with zero fiscal flexibility, persistent underperformance in many parts of the EU, and an ever-widening gap between incomes in Europe’s core and its periphery, a stark choice will present itself. Let the euro area and the single European market dissolve, which would be a disaster for Germany as for everyone else. Or form a transfer union that puts German taxpayers permanently on the hook for the EU’s backward regions, which is the very outcome that Merkel dreads most.

How do you say “pretzel logic” in German?

(Clive Crook is a Bloomberg View columnist. The opinions expressed are his own.)

To contact the author of this article: Clive Crook at clive.crook@gmail.com.

To contact the editor responsible for this article: James Gibney at jgibney5@bloomberg.net.