The insane ECB continues its reign or terror

While the UK’s latest inflation report seems almost optimistic, Europe remains completely fucked. Look, I don’t want to swear, but what else can I do? Remember how much you swear when you stub your toe? That’s not as bad as unemployment, is it? Well millions of people are unemployed thanks to the worst institution in the world, the ECB.

As Matt Yglesias points out, although the periphery’s descent into hell is decelerating, even Germany is suffering. It reported only 0.1% quarter-on-quarter growth for Q1 2013. This is what Eurozone economic “growth” looks like versus US growth.


And, although Karl Smith can’t make Eurostat spit out the numbers he wants someone can. Above is growth rates, what that fails to show is the magnitude of the divergence between the US, where fiscal policy is nuts but monetary policy relatively sane, and the EU where everyone’s just gone batshit crazy and decided things need to get worse before they can get better.

Widening gap

Let this be a lesson to you, you can fill a properly instituted legislature with lunatics and by the magic of checks and balances somehow survive, let them into your central bank and you’re doomed.

Limits to monetary policy

There is a limit to monetary policy. Once the central bank has bought everything then we will have hit the limits of monetary policy.

When the company you work for is owned by the central bank and the pub you drink in is owned by the central bank and your pension fund is owned by the central bank, then we may start running into difficulties. How can the central bank inject money into the economy when it has already bought the shoes off your feet? Then we might have a problem. We are nowhere near the point where central banks are out of ammunition. Such a position shows a poverty of imagination.

There are a couple of straightforward ways for monetary policy to boost growth when an economy is depressed, one is to increase the amount of money chasing the  goods that have been produced. When an economy is operating well this simply increases prices, rents and wages without anybody actually getting better off. When an economy is depressed people don’t simply increase prices, rents and wages, they use the spare capacity available to bring more goods, land and people into employment. This is what a recovery is.

The other way of looking at it, would be to see this as a devaluation of the currency vis a vis other countries. This makes imports more expensive and exports more competitive. This shifts production to produce more exports and import competing goods and promotes growth. Is monetary policy impotent to generate either of those effects? Hell no!

If monetary policy is impotent to increase demand and the amount of money chasing goods, then the Bank of England could make the whole stock of national debt vanish without anybody suffering ill effects. If monetary policy is out of ammunition then monetising £1 trillion will have no effect on prices, rents or wages, and will just  reduce future expected taxes. That sounds a little too good to me.

While we at it, we may as well solve the European sovereign debt crisis, if monetary policy is impotent to affect a devaluation we may as well print enough pounds to buy enough euros to retire every continental nation’s stock of debt. If that doesn’t devalue the pound and boost exports I don’t know what will.

Frankly, the idea that somebody with a printing press, capable of producing money which is accepted around the world and for all imaginable goods and serves is unable to increase economy wide spending is laughable.

Of course, nothing is that simple, a central bank that went on a spending spree could always reverse its stance and suck the world dry of currency. The expectation of this reversal would seriously dent the efficiency of easily reversible actions like QE. However, that does not mean we should abandon QE it means we should pair it with a nominal target, a commitment device, like a nominal GDP level target to stabilise expected and current demand.

Nota Banquero sounds a lot like Notenbanker

I’m very sympathetic to the idea that the peripheral Eurozone countries should cut loose and devalue their new currencies to regain competitiveness and aid recovery. Krugman here half-recommends a quick default and devalue solution for countries running a primary surplus (that is, only borrowing money to cover the interest payments of previous loans).

The basic logic is one which I adhere to. The European Central bank has caused a debt problem to be seriously exacerbated by an aggregate demand problem, a new national central bank in control of its own currency (Esnewdo etc.) could boost demand through an adequate devaluation.

But there is no guarantee that such a devaluation would be adequate, or that a new central bank would act aggressively enough. To a degree the newly empowered Central Bank would have no choice, markets would force it to devalue, but much commentary assumes they would also force the bank into the accommodative policy, this need not be so. Many countries have voluntarily maintained too tight monetary policy for too long.

The cult of the credible central banker would stay the hand of any newly independent central bank. The logical and sensible point that a central bank must not behave recklessly or unpredictably has been become a dogma. Modern central bankers have become overly concerned that any departures from fighting inflation could lead easily to inflation expectations becoming “unanchored“, potentially leading to hyperinflation.

The political pressure to boost demand for a periphery Central Bank with its own currency would be intense. But this would only intensify the professional and institutional pressure on Central Bankers to resist these calls to retain their “credibility”; Interest rates may remain too high, or the bank may signal its hawkishness at any sign of demand picking up.

Devaluation without a change in the culture and prescriptions of central banking could lead to the worst of all worlds for the peripheral countries of Europe. Their economy could remain depressed and uncompetitive due to central bank stubborness but their external burden would have increased because their national, or at least, private debts remain denominated in much more expensive Euros.

Many countries have the option of following the Swiss and Swedish in devaluing but so far the US, UK and Japan have all refused. Britain today ignores opportunities to increase demand using monetary stimulus just as we suffered all through the 1920s because we chose to overvalue our currency. I fear much of southern Europe could find itself in the same situation.

In addition to this cult of the central banker, it may be that Steve Randy Waldman is correct and that depression is a choice. He argues that because of demographic pressures interest rates are naturally quite low, and because there are lots of old people who live off fixed income there are institutional problems to getting enough stimulus because they fear their income will be inflated away.

The low interest rates make normal monetary policy hard and the political constituency make unconventional policy too difficult to employ. Hence nations, or currency zones, “choose” depression. Demographic pressures in Southern Europe are similar to those in Japan and the elderly are much more powerful in Italy than in the UK or the US where policy also remains too tight.

The combination of political constituencies who are threatened or think they are threatened by looser monetary policy and a cult which treats loose monetary policy as a dangerous barbiturate may mean that even an independent currency may not be enough to pull the periphery of Europe out of its doldrums. The institutional constraints which have helped create the current Eurozone crisis will outlive the euro and must be considered in any rescue plan.

Told you so

Still screwed.

European stocks were in the black but off earlier highs Tuesday, as investors weighed strong German growth figures against the possibility of a Greek exit from the euro… [M]arket participants pointed to the fact that Tuesday’s GDP releases merely highlight the growing disparity between Germany’s strong performance and the weakness seen in Southern European members. Italy’s economy contracted by 0.8% in the first quarter, while Spain’s economy shrank 0.3% and Portugal remained in recession. In Greece, GDP contracted by an annual rate of 6.2% in the first quarter.

We have a balance of payments crisis; the continuance of this crisis is not good news, even if Germany keeps the Eurozone from entering a “technical recession.” The periphery is still exporting too little and importing too much, Germany vice versa.

Unless the periphery of the Eurozone is given somewhere to export to they will not recover. I’m not asking for any sacrifice from the Germans aside from the psychic cost of no longer being able to tell yourself how virtuous you are. I’m asking for the Germans to consume more! They should have more stuff themselves instead of selling it to Italians, Spaniards, Portuguese, Greeks etc. for bits of paper which might end up being worthless.

Have your cake and eat it Germans, better yet, eat a cake made by some Italians and  Spaniards and Portuguese and Greeks and Frenchmen! You’ve earned it.

The Eurozone as a Country

I think this data from WolframAlpha is worth thinking about with reference to thinking about the Eurozone as a country.

1 | Luxembourg | $107000 per person per year
2 | Netherlands | $48300 per person per year
3 | Ireland | $47600 per person per year
4 | Austria | $45900 per person per year
5 | Belgium | $43800 per person per year
6 | Finland | $43700 per person per year
7 | Germany | $41500 per person per year
8 | France | $41200 per person per year
9 | Italy | $35100 per person per year
10 | Spain | $32400 per person per year
11 | Greece | $29400 per person per year
12 | Cyprus | $28300 per person per year
13 | Slovenia | $24300 per person per year
14 | Portugal | $21700 per person per year
15 | Malta | $20300 per person per year
16 | Slovakia | $18200 per person per year
17 | Estonia | $14400 per person per year

Some thoughts. The most successful currency union I can think of is the United States. The Eurozone is very different from the US is some very important ways normally the negative are emphasised, but some of these differences are positive.

Potted History: The South and the North had different institutions up to the 1960s, what with the South being very, very racist. Unsurprisingly this left the South much poorer. After much brouhaha, the North won, finally completed the South’s reconstruction and the South began to converge on the living standards of the North. The South went from about half as wealthy, they were even still picking about half their cotton by hand, to about as wealthy. There is about a three to one difference between the poorest parts of Europe and the richest (ignore Luxembourg). That convergence took basically the whole history of the United States until very recently, this does not bode well for Europe, disparities can exist for a very long time.

But, despite larger inequality with respect to income, nowhere in the Eurozone is as much of a basket case as was the US South in terms of institutions. This means that it should see faster convergence on wealthy living standards which is one thing which makes the current crisis such a tragedy. There are no fiscal transfers within the Eurozone analogous to those within the US but neither does Europe have the terrible legacy the poorer parts of the US had. So there are (limited) reasons to be cheerful.

UPDATE: As Innocent Bystander points out in the topics, I’ve just provided a list of numbers without context. As you’re all not psychic let me say they refer to Gross Domestic Product Per Capita.

A Safer Way to Save the Eurozone

Cross published from my Uni paper, not sure if I’m allowed. But hey, I’ve nothing else written.

For the fourth or fifth time in as many years Europe needs a rescue plan. A group of academics from all around Europe, including LSEs Professor Luis Garicano and Professor Dimitri Vayanose now have a proposal which may be part of the last rescue plan necessary.

The problem is simple. Many countries, from Greece to Portugal, Italy, Spain and Ireland, carry debts they may not be able to pay back in full. Failure to pay back these debts would return Europe to recession because much of this debt is held by European banks who once considered it safe.

There is enough money in Europe to pay these countries debts, it is just that it is earned and spent in Germany by Germans, and the Germans are understandably keen to keep it this way. Previous plans have fallen short because the citizens of northern Europe are unwilling to commit to a bailout of southern Europe.

A rescue plan is not elusive because the economics are hard, politics is the fundamental problem. A successful plan to save Europe from renewed crisis will need to leverage Europes economic clout to shore up confidence in its riskier members in a way which does not put German taxpayers money in harm’s way. Eurobonds, once mooted as a potential solution to Europes woes were rejected for just this reason. They would have left Germany and other safe European countries on the line for the risky borrowing of other European countries.

Their rescue plan, published at the Euro-nomics website, is gaining traction with many of institutions at the heart of Europe. They propose to bundle up a portion of the debts of all Eurozone members and split it into a safe senior tranche and a risky junior tranche. Complex financial products got us into this mess and it is hoped that they may well get us out.

The senior tranche of debt would be known as European Safe Bonds (or ESBies, if you like your financial derivatives to have cute names) and would be amongst the safest financial assets in the world. They would be backed by the first 70% of debt payments from all European countries. Were things to go badly wrong through the Eurozone and many countries were to default ESBies would remain safe.

By their calculations, this means ESBies would only suffer losses every 600 years or so. They would be dull and their rewards would be meagre, just what Europe needs in these troubled times. Those who wanted higher returns, hedge fund and private equity investors, could gamble on the junior tranche without the problems caused by risky bonds being held by large banks.

This is important, rescue Europe and you rescue the employment opportunities of everyone who graduates from LSE next year. It would take a few months to get up and running but even moving towards this solution would calm markets and help return Europe and the world to stability.