The ECB took a few surprise measures on Thursday mainly as a signal that central banks are willing to Do Something, even when sort of somethings they can do are at best unproductive. But the weak tea of lowering the benchmark rate by 10 basis points to 0.05% and announced it would be implementing a watered-down version of QE, in which it will start buying asset backed securities and covered bonds nevertheless pleased investors initially. bu the enthusiasm proved to be short lived; in the US, the modest stock market lift in the morning had gone into reverse by the close of trading. The announcement did produce one tangible positive outcome for the flagging European economy, which was to lower the value of the euro.
In fact, the ECB’s QE lite will do even less to goose the real economy than its older sibling did in the US. did in the US. First, the pool of asset-backed securities in the Eurozone is small, and some may already be in the hands of the ECB. Second, to the extent that mortgage-bond buying in the US lowered mortgage interest rates (there is considerable debate as to how much effect there really was), it did help increase consumer spending power a bit by allowing for a wave of mortgage refinancings at super-lower rates.* By contrast, outside the US, mortgages are typically floating-rate and/or restrict refinancing into lower-rate mortgages. Similarly, as Ed Harrison pointed out via e-mail, the Breugel blog last July was skeptical about the impact of having the ECB purchase backed securities. So this program is not a policy, it’s a gimmick.
But Draghi has made an art form of sleight of hand. The ECB’s OMT, for instance, amounted to pointing to a series of existing ECB powers and calling it a program, and astonishingly, investors and commentators for the most part treated it seriously.
One could go into ECB Kremlinology, for instance, that Draghi didn’t have the full support of the governing council; the Bundesbank’s Jens Weidmann was reportedly opposed. But the much bigger issue is the degree to which European policy-makers are wedded to failed policies. For instance, in a Bloomberg op-ed, Mohamed El-Erian uncritically states:
The ECB’s moves come in the context of legitimate concerns about the momentum of Europe’s already-sluggish economic recovery. They are part of a broader policy framework with four main elements:
1. Force down bond yields and interest rates, hoping that this supports jobs and growth by restoring proper credit flow throughout the monetary union.
2. If this doesn’t work fast enough, repeat with more aggressive use of bond purchases, hoping also to promote export growth by weakening the currency.
3. Pressure governments, both privately and publicly, to implement much-needed measures to promote growth and avert deflation.
4. In all this, hope that the costs and risks of experimental monetary policies don’t overwhelm their benefits.
By now, it’s evident that this “framework” is a desperate effort to avoid facing up the need for radical policy changes. Point number 1 is the economic zombie of the loanable funds fallacy. As we’ve discussed repeatedly, putting money on sale will not stimulate business expansion for most enterprises. Entrepreneurs will tell you that what determines whether they expand their activities depends on whether they see opportunity in their markets. By contrast, the type of business that benefits from putting money on sale is financial businesses, particularly ones that engage in leveraged speculation. So the cheap money fix approach only further fattens an already bloated financial sector. And that issue in and of of itself gets at point 4, the significant counterproductive effects of super cheap money.
While as we mentioned, weakening the euro would be a plus for Eurozone growth, it’s not going to be permitted to go far enough to make much of a difference. Even Japan, which was suffering with the yen long in nosebleed territory, got what amounted to a stern warning from the US when the yen reached 100 to the dollar, which at any time prior to the crisis would have been seen as an astonishingly high level.
The third element in the list, that these policies will pressure national governments, is simply barmy. Central banks engaging in largely ineffective monetary adventurism lets governments off the hook. The more the ECB and the Fed are in the medial running various stimulus placebos, the less that governments feel the need to administer the real thing, which is fiscal policy.
But as El-Erian unwittingly reminds readers, the reason that the ECB is desperately attempting to bail water out of the leaky Eurozone boat is that it is wedded to austerity, and even its new enlightened point of view of delaying “fiscal consolidation” (as in easing up on budget balancing strictures and allowing for a few years of greater deficit spending) is way too little, way too late. This is the recitation of the more enlightened Eurocrats’ prescription:
To succeed, he [Draghi] needs governments to temporarily ease fiscal consolidation and do more to improve the functioning of labor markets, foster competition, overhaul tax systems, improve infrastructure and generally enhance the business environment.
The problem with that? “Improve the functioning of labor markets”= “labor reform” = lowering wage rates. Similarly, “foster competition” generally means the reverse. It’s usually a call for deregulation, which promotes the formation of monopolies and oligopolies, which reduces competition. And you can rest assured that “overhauling tax systems” means improving collections in places with large cash economics and rich people who avoid the taxman like Greece. But that does not amount to using taxation to promote pro-growth policies, like making taxes much more progressive.
Shorter: Neoliberalism has kept Europe mired in a ditch, but the remedy for failed neoliberal policies is more of the same. But since the economic malaise hasn’t shaken the current economic and political order, preserving a bad status quo, even at a considerable cost to ordinary people, looks far more appealing than the hard and risky work of making radical changes.
While political pressures, particularly in France and Italy are rising, most commentators still think a fundamental rupture is unlikely. But as Nobel Prize winner Herb Stein said, “That which can’t continue, won’t.” Something has to give in Europe, but in the meantime, we can expect continued short-term interventions and policy legerdemain.
* But even here, the benefit was not as great as one would imagine, due to how much intermediaries rip out in fees on mortgage refis.