ECB: An appropriate monetary policy
Mickey Levy 16 May 2014
As banks repay their loans from the Long-Term Refinancing Operation, the ECB’s balance sheet is shrinking. This column argues that, given the slow recovery and sustained low inflation, the ECB should replace its bank lending programme with quantitative easing. Buying short-term government debt would be consistent with the ECB’s inflation target, would keep the ECB’s monetary policy separate from its role in bank supervision, and would create a built-in exit strategy from unconventional policy.
Europe’s modest economic recovery and uncomfortably low inflation put the ECB in a bind. Although economic conditions are improving gradually (European Commission 2014), concerns about the potentially negative impacts of deflation persist (Armstrong et al. 2014). The ECB’s top near-term priorities are to avoid deflation (and apparently even sustained low inflation) and extend the economic recovery.
ECB, eurozone, monetary policy, quantitative easing, bank lending
How the euro changed the pattern of international debt flows
Galina Hale, Maurice Obstfeld 15 May 2014
Large flows of bank lending from core countries in the Eurozone to the periphery lead to large financial imbalances. This column explains what motivated such financial flows. With the advent of the Eurozone, banks in core countries gained relative advantage in lending to the periphery, making such lending very attractive. They also served as intermediaries for financial flows from outside the Eurozone to the periphery. Now – five years since the start of the euro crisis – Eurozone financial markets remain segmented.
Internal financial imbalances within the Eurozone were central to the development of the European debt crisis. They resulted in a concentration of European periphery risks on the balance sheets of banks located in core Eurozone countries (Lane 2012, Rey 2012, Shin 2012). They also promoted larger intra-Eurozone current-account deficits and a sharp fall in peripheral bond yields, accompanied by a loss of competitiveness of the peripheral economies, most strikingly relative to Germany (Chen et al. 2013, Shambaugh 2012).
EU institutions Financial markets
eurozone, Debt crisis
The increasing competitiveness of the southern Eurozone
Raphael Auer 11 April 2014
Some view the improvements in current accounts for Greece, Italy, Portugal, and Spain as short-lived – the result of a temporary compression of import demand that is likely to be reversed as the recession eases. This column argues the contrary, based on the fact that their improving trade balances reflect better export performance. This development points toward a fundamental stabilisation of the competitiveness of these economies.
Current-account (CA) rebalancing is a necessary step for the Southern EZ countries to overcome their debt and external balance of payments crises.1 Figure 1 documents the impressive speed and magnitude of the southern EZ’s CA rebalancing.
Europe's nations and regions International finance
eurozone, Eurozone crisis, current account rebalancing
Delivering the Eurozone ‘Consistent Trinity’
Marco Buti, Maria Demertzis, João Nogueira Martins 30 March 2014
Although progress has been made on resolving the Eurozone crisis – vulnerable countries have reduced their current-account deficits and implemented some reforms – more still needs to be done. This column argues for a ‘consistent trinity’ of policies: structural reforms within countries, more symmetric macroeconomic adjustment across countries, and a banking union for the Eurozone.
As argued in an earlier commentary, the financial crisis exposed important economic inconsistencies in the way that EMU operated.1 Although progress has been made, the reality is that more needs to be done. A number of countries still need to consolidate their public finances further, and also implement structural reforms to promote growth and sustain satisfactory welfare systems. At the same time, there is a need for vulnerable countries to ensure consistency between regaining competitiveness and the sustainability of private and public debts.
Europe's nations and regions Macroeconomic policy
eurozone, euro, EMU, imbalances, fiscal policy, structural reforms, fiscal consolidation, debt, Eurozone crisis, Stability and Growth Pact, banking union, internal devaluation
The Eiffel group: A political community to rebuild the architecture of the euro
Agnès Benassy-Quéré, Shahin Vallee 27 March 2014
The recent crisis has highlighted some problems in the current structure of the Eurozone, such as the lack of political integration. This column introduces the Eiffel group – a group of French experts – and its call for a ‘political community of the euro’. The economic and political rationales behind the proposal are discussed in detail. This proposal (also shared by experts in other countries) calls for a debate about the architecture and institutions underpinning the European Monetary Union.
The idea that the European Monetary Union can only exist with some form of political integration and a proper budget is not new. In 1977, the MacDougall report suggested that a budget of the order of 5-7% of GDP was necessary, and in the run-up of the Maastricht treaty, Jacques Delors was insistent on the needs for political integration (see, e.g., Delors 1991). Yet, for lack of political consensus, it was decided to proceed with monetary union alone in the hope that monetary and financial integration would eventually precipitate both fiscal and political integration over time.
EU institutions EU policies
eurozone, Eurozone crisis, Eiffel group
TARGET balances, Bretton Woods, and the Great Depression
Michael Bordo 21 March 2014
Since 2007, there has been a buildup of TARGET imbalances within the Eurosystem – growing liabilities of national central banks in the periphery matched by growing claims of central banks in the core. This column argues that, rather than signalling the collapse of the monetary system – as was the case for Bretton Woods between 1968 and 1971 – these TARGET imbalances represent a successful institutional innovation that prevented a repeat of the US payments crisis of 1933.
During the Eurozone crisis, an analogy was made between the events in Europe between 2007 and 2012 and the collapse of the Bretton Woods System between 1968 and 1971. There has been a build-up of TARGET liabilities since 2007 by some central banks (notably Greece, Ireland, Portugal, and Spain, or the ‘GIPS’), and of TARGET assets by Germany and others.
Economic history International finance
ECB, eurozone, euro, global imbalances, Central Banks, financial crisis, Great Depression, Eurosystem, Eurozone crisis, Bretton Woods, TARGET
A fiscal shock absorber for the Eurozone? Lessons from the economics of insurance
Daniel Gros 19 March 2014
Since the onset of the sovereign debt crisis, the argument for a system of fiscal transfers to offset idiosyncratic shocks in the Eurozone has gained adherents. This column argues that what the Eurozone really needs is not a system which offsets all shocks by some small fraction, but a system which protects against shocks which are rare, but potentially catastrophic. A system of fiscal insurance with a fixed deductible would therefore be preferable to a fiscal shock absorber that offsets a certain percentage of all fiscal shocks.
Even before the euro crisis started, it had been widely argued that the Eurozone needed a mechanism to help countries overcome idiosyncratic shocks. The experience of the crisis itself seemed to make this case overwhelming, and throughout the EU institutions it is now taken for granted that the Eurozone needs a system of fiscal shock absorbers. For example, The Report of the President of the European Council calls for:
EU institutions Macroeconomic policy Welfare state and social Europe
eurozone, euro, insurance, fiscal policy, Eurozone crisis, fiscal union, fiscal shocks, fiscal shock absorbers
How much is enough? The case of the Resolution Fund in Europe
Thomas Huertas, María J Nieto 18 March 2014
The European Resolution Fund is intended to reach €55 billion – much less than the amount of public assistance required by individual institutions during the recent financial crisis. This column argues that the Resolution Fund can nevertheless be large enough if it forms part of a broader architecture resting on four pillars: prudential regulation and supervision, ‘no forbearance’, adequate ‘reserve capital’, and provision of liquidity to the bank-in-resolution. By capping the Resolution Fund, policymakers have reinforced the need to ensure that investors, not taxpayers, bear the cost of bank failures.
During the crisis, individual institutions such as Hypo Real Estate required public assistance of €100 billion or more.1 So how can a European Resolution Fund of only €55 billion possibly suffice for all banks in the Eurozone?
It could, provided the Fund is part of a well-designed architecture for regulation, supervision, and resolution, that makes banks not only less likely to fail but also safe to fail – meaning that they can be resolved without cost to the taxpayer and without significant disruption to financial markets or the economy at large.
EU institutions Financial markets International finance
eurozone, regulation, banking, systemic risk, microprudential regulation, bank resolution, Macroprudential policy, bail-in, European Resolution Fund
Clarifying the debate about deflation concerns
Mickey Levy 21 February 2014
A popular view among economic commentators is that rich countries face a serious risk of deflation, and should adopt aggressive macroeconomic stimulus policies to ward it off. This column argues that despite similar headline inflation rates, the US, Europe, and Japan in fact face very different macroeconomic conditions. In the US, much of the recent disinflation is attributable to positive supply-side developments. In Europe, an aggressive round of quantitative easing might encourage policymakers to delay the reforms that are necessary to avoid a prolonged Japanese-style malaise.
A common theme among many economic policymakers, financial market participants, and the media is that rich industrialised nations face a high risk of deflation, and that deflation always harms economic performance and so must be combatted with aggressive macroeconomic stimulus. Such broad assessments are misleading, and under certain circumstances may lead to misguided policies. More clarity on the topic is required.
Global crisis Monetary policy
eurozone, US, Europe, Japan, deflation, disinflation, quantitative easing
Tracking the causes of Eurozone external imbalances: New evidence
Jose Luis Diaz Sanchez, Aristomene Varoudakis 06 February 2014
External imbalances within the Eurozone grew substantially between the introduction of the euro in 1999 and the global financial crisis of 2008–09. Using new empirical evidence, this column argues that imbalances in the Eurozone periphery were mainly driven by a domestic demand boom, triggered by greater financial integration, with changes in the periphery’s competitiveness playing only a minor role. Internal devaluation may thus have been of limited effectiveness in restoring external balances, although better external competitiveness may eventually boost medium-term growth.
The Eurozone sovereign debt crisis, triggered by the 2008–09 global financial crisis, exposed macroeconomic imbalances in member countries that had accrued gradually following the advent of the euro in 1999. The growing current-account deficits in the Eurozone periphery and surpluses in the core were a main symptom of these imbalances (Figure 1).1 These patterns of intra-Eurozone current-account imbalances led to the accumulation of large external debts in the Eurozone periphery, matched by growing claims held by commercial banks in the core.
competitiveness, eurozone, global imbalances, global financial crisis, European sovereign debt crisis