Ambrose Evans-Pritchard takes a break from his usual the end is nigh approach and delivers a good analysis of the dilemma that faces Germany. In the Telegraph today. He notes that the German finance ministry is drawing up plans for to deal with debt defaults among some of the weaker members of the EU and suggests that there is really little choice but big risk.

But what about the solemn pledge to voters by Germany’s political elites – promiscuously given over the years – that monetary union would never leave them on the hook for the debts of half Europe?

The vast imbalances that have been allowed to build up under the seductive protection of EMU leave German taxpayers facing bail-out liabilities that exceed the cost of reparations after the First World War, in proportional terms. The political ground has not been prepared for this. EMU was foisted on the German people without a referendum, in the face of deep public scepticism and scathing criticisms by the professoriat. This failure to secure a mandate for such a revolutionary undertaking is coming back to haunt them.

Berlin is at last having to deliver on the Faustian bargain made by Germany’s political class when it swapped the D-Mark for French acquiescence in reunification. It must either go the whole way towards EMU fiscal union and take responsibility for Italy’s public debt (111pc of GDP by next year), Austria’s loans to Eastern Europe (70pc of GDP), the adventures of Ireland’s ‘Canary Dwarf’ (€400bn or so in liabilities), and Spain’s housing collapse (1m unsold homes), or jeopardize its half-century investment in the political order of post-war Europe. Letting EMU fail at this stage would have far higher costs than never having launched the project in the first place.

Those few paragraphs neatly sum up the conundrum that German politicians are faced with. Having never overcome German skepticism towards the EU, they are now faced with a crisis that will force them to renege on the essential promises they made when they committed Germany to the Union. Were that the only problem, it might be manageable but as Mr. Evans-Pritchard points out, the German capacity to pull this off is questionable.

The German economy contracted at an 8.4pc annual rate in the fourth quarter as exports to Eastern Europe, Club Med, and the Anglo-sphere collapsed. The GM subsidiary OPEL is running out of cash and risks going the way of Sweden’s SAAB without a €3.3bn rescue.

Mortgage lender Hypo Real Estate is imploding despite €87bn in state guarantees and capital injections. Mr Steinbruck said nationalisation is inevitable. If Hypo collapses with €400bn of liabilities, it would risk a “second Lehman Brothers”, he said. Like Northern Rock, it relied on short-term funding to lend long. Game over.

Hypo has been infecting the €850bn Pfandbriefe market (covered bonds), the rock core of Germany’s credit system. Spreads on Postbank issues have jumped from 40 to 80 basis points. Pfandbriefe are not covered by Berlin’s emergency guarantees (unlike 3-year bank debt). That may need to be changed soon. Mr Steinbruck still insists that German banks are in fine fettle. The rest of us notice their leverage ratio is 52, the highest of any major country in the world. We are assured they have good assets. Let us hope so.

If this crisis has taught us anything so far it is that things are probably worse than they appear to be. I’m not so sure it’s been a case of politicians and business leaders trying to bury bad news so much as a complete inability to get collective hands around the problem. In effect to define the scope of the problem. While fiscal policy is just beginning to be directed towards a hoped for solution, monetary policy has been at work for some time and seemingly succeeded only in warding off complete disintegration.

There is no reason to assume that German economy has seen the worst of this. In fact a sober analysis would suggest that one should assume that there is probably still a lot of downside risk left. In that case, the ability of Germany to rescue its failing neighbors might not be a lock. Simply ensuring survival of the German economy might yet become the primary task.

Mr. Evans-Pritchard ends by noting that the architects of the EMU recognized the weaknesses in their creation but felt that a crisis much like we now see would force the various countries to pull together and thus create a complete union. There’s a lot more hope than plan in that concept. It might work but if things continue to spiral downward there is a chance that national self-interest takes things on an entirely different course.