Unbending Europeans on QE proposals
Doubt about aiding most indebted countries
Americans from Mars, Europeans from Venus
by David Marsh
Wed 29 May 2013
James Bullard, President of the Federal Reserve Bank of St. Louis and one of the most internationally-minded economists on the Federal Open Market Committee, visited Frankfurt and London last week (including OMFIF). His aim: to explore what is happening on the European scene and to spell out how Federal Reserve actions are gradually helping the US economy.
Last week Bullard developed the latest version of the ‘Americans from Mars, Europeans from Venus’ theme, calling on the European Central Bank to adopt large-scale purchases of government bonds through quantitative easing (QE), as already implemented by the Fed, the Bank of Japan and Bank of England. Bullard favors GDP-weighted bond purchases for all countries in the euro area, irrespective of whether or not they are in difficulties.
He distinguishes his initiative from the targeted, conditional (and unused) Outright Monetary Transactions (OMT) programme unveiled by the ECB last summer. By damping speculation of a euro break-up, the OMT has brought down bond yields in the hardest-hit peripheral countries – but has failed to get economies on the move.
Bullard knows his proposal is very unlikely to be put into effect. But the still-dire state of the European economy, mired in recession with six straight quarters of declining output, coupled with better news in the US, may make it a little more likely that the Europeans (and especially the Germans) will listen now than when American voices in this direction were last raised four years ago in the immediate aftermath of the financial crisis.
But only a little. Scepticism about whether QE as introduced in the other main economies would really work in Europe is as large as ever. Many German economists in particular see Japanese plans for a doubling of the monetary base as a financial time-bomb. They view the 7% fall in the Nikkei index last Thursday as a harbinger of more setbacks ahead. German criticism of the effect of low European interest in producing negative returns for savers is already forceful. It would become more virulent still if QE drove down rates further.
Long-standing doubts about QE voiced by the ECB (to say nothing of the Bundesbank) include whether an increase in the European monetary base would actually prompt banks to increase loans to the parts of the corporate sector which actually need them. A view heard at the ECB is that GDP-weighted bond purchases for 17 countries would end up with a disproportionately large impact on the bond markets of the most heavily indebted countries – and so would diametrically contravene the ECB’s wish that governments and not central bankers take up the main responsibility of efforts to restore growth.
According to latest business surveys, euro area output is likely to continue shrinking in the second quarter. In Germany, the focus of attention is likely to shift to the hearing at the Constitutional Court in Karlsruhe on 11 and 12 June, in which Jens Weidmann, the Bundesbank president, will give evidence to support the central bank’s contention that the mooted OMT programme contravenes European treaty stipulations.
Meanwhile, the ECB’s own revision of past monetary history continues in intriguing fashion. Last week deputy president Vítor Constâncio contradicted the previous line of Jean-Claude Trichet, the former president, who had earlier insisted that a principal reason for the euro’s shortcomings lay in governments’ failures earlier in the 2000s to keep public sector borrowing under control.
In fact, Constâncio said, the euro’s difficulties fell squarely into the area of money and credit rather than public finance. He pointed to private, not public sector, imbalances, ‘financed by the banking sectors of the lending and borrowing countries’, as the main past problem. ‘The inflow of relatively cheap financing turned into a huge credit boom in the countries now under stress.’ The unspoken message from the ECB is that any recourse to further non-standard measures will clearly have to pass newly-strengthened ECB criteria on money and credit. James Bullard will have to wait a while for his precepts to build a following in Frankfurt.
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