The ECB as Schroedinger’s cat

The European Central Bank is at all times both fulfilling its legal mandate and ignoring it. Until you look closely it is impossible to tell which it is, and once you have decided which it is it can only be because you have lost sight of its mandate as set down in law. This explains a lot: Even I can’t decide whether Mario Draghi relentlessly adheres to or has completely abandoned the whole ECB mandate.

One of the reasons that Europe is collapsing and the whole world is heading for a recession within a depression is that the ECB is charged solely with maintaining price stability not supporting economic growth. Their duty, they argue, is to without prejudice support a European wide inflation rate below, but close to 2%. However, the mandate as set out in law is so convoluted as to leave the ECB council capable of simultaneously adhering and violating both the letter and spirit of the law. No wonder Europe is a mess.

They are not just charged with maintaining price stability, as interpreted, they are also empowered to…

Without prejudice to the objective of price stability, it shall support the general economic policies in the Union with a view to contributing to the achievement of the objectives of the Union as laid down in Article 3 of the Treaty on European Union. [my emphasis throughout]

This implies that although the ECB cannot ignore inflation, it has leeway to support the policies of member states and the Union as a whole. By this criteria the ECB should have done everything in its power to keep inflation and inflation expectations running at really, really, really close to 2%. Instead they have crashed. The mandate is wider than price stability and includes supporting economic policy making rather than sabotaging it.

However, the mandate continues…

The ESCB shall act in accordance with the principle of an open market economy with free competition, favouring an efficient allocation of resources, and in compliance with the principles set out in Article 119 of the Treaty on the Functioning of the European Union.

This part of the mandate implies that the ECB is empowered to not support the policies of member states if they are not compliant with “free competition, favouring an efficient allocation of resources.” That would certainly have empowered Trichet, and now Draghi, to withhold such support as is possible if they consider member states’ policy “insufficiently favourable to an efficient allocation of resources.”

At the moment it appears Draghi is refusing to cut interest rates below 1% to blackmail Greece and France into policies deemed favourable to “Article 119 of the Treaty on the Functioning of the European Union.” This seems like something that should be impermissible for a central bank but it is in fact within the Feds mandate. So refusing adequate policy until member states change policy is merely the ECB laying greater weight on supporting certain policies over others, as it is mandated.

The mandate references Article 119 which says…

1. For the purposes set out in Article 3 of the Treaty on European Union, the activities of the Member States and the Union shall include, as provided in the Treaties, the adoption of an economic policy which is based on the close coordination of Member States’ economic policies, on the internal market and on the definition of common objectives, and conducted in accordance with the principle of an open market economy with free competition.

2. Concurrently with the foregoing, and as provided in the Treaties and in accordance with the procedures set out therein, these activities shall include a single currency, the euro, and the definition and conduct of a single monetary policy and exchange-rate policy the primary objective of both of which shall be to maintain price stability and, without prejudice to this objective, to support the general economic policies in the Union, in accordance with the principle of an open market economy with free competition.

3. These activities of the Member States and the Union shall entail compliance with the following guiding principles: stable prices, sound public finances and monetary conditions and a sustainable balance of payments.

The ECB has overseen a colossal balance of payments crisis, with the Eurozone periphery persistently running deficits and the core running surpluses. In 1992, at the signing of the Maastricht treaty, they saw this problem coming and specifically empowered the institutions of Europe to deal with it, and they have failed. This imbalance, rather than government profligacy is at the core of the Eurozone crisis. Certainly under Trichet, and now under Draghi, this part of the ECB’s mandate has been completely ignored.

A mandate is fulfilled or unfulfilled, but it is impossible to tell if the ECB has, is or will fulfil its mandate in its entirety. The ECB has failed or succeeded, and is on target to achieve or betray its objectives, it has achieved its aims “impeccably” or it is insane.

To be honest, I’m too tired to work out which it is, all I know is that all this makes me very pessimistic.


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.

Well, this just got interesting

After accepting a mandate to create a multi-party administration following inconclusive elections, Alexis Tsipras sent shockwaves through financial markets by announcing the pledges Athens had made to secure rescue funds from the EU and IMF were null and void.

*Gets Popcorn*

We’re all still screwed by the way, this just makes the whole process much more entertaining.

Migration as Technology

I was a little confused by this Robin Hanson post. He cites with approval the fact that since 1970 40% of all the extra consumption in the world has occurred in the United States. Below are the top 30 gainers in terms of tens of billions of dollars a year.

United States 583, Japan 183, China 103, United Kingdom 73, Germany 63, France 53, India 47, Brazil 47, Italy 39, Canada 37, Mexico 37, Spain 28, Indonesia 14, Netherlands 11, Greece 9, South Africa 8, Thailand 8, Switzerland 8, Belgium 8, Austria 7, Colombia 7, Sweden 7, Philippines 7, Norway 7, Malaysia 7, Portugal 6, Chile 6, Finland 5, Ireland 5, Denmark 4. (source)

Robin argues that this is argument against Tyler’s notion of a slow down in technological innovation. But the population of the US is 48% bigger in 2010 (310,000,000) than in 1970 (209,000,000). At first I couldn’t see why this would counts as evidence against some notion of a slow down in intensive growth. The US got more from more which is great for all those people involved, but it is not evidence we can get more from less, is it?

Well, in a way it is, although you have to denationalise your perspective. The US does have an overwhelming lead in one “technology”; that of receiving and assimilating migrants. The factors behind this are geographical, historical and cultural, but it still as a really important technology in terms of increasing “our” productive and consumptive capacity.

The productivity of millions of people has been hugely increased simply by them moving across a border. Allowing more migration is an innovation that can make many people better off by improving their productivity. But it is a technology which cannot be excercised by a single firm, it is better thought of as a society-wide innovation akin to germ theory or corporation law.