The European Central Bank should learn from the success of unconventional policies in America and Britain
CENTRAL bankers from around the world gather this week in the foothills of the Teton mountains to hike trails and share gossip and ideas. It is an apposite time to swap notes: the rich world’s economies have taken divergent paths and the bankers at Jackson Hole have much to learn from one another about which policies work best.
In America and Britain, output and employment have surpassed their pre-crisis peaks and are growing solidly. But the picture in the rich world’s other two big economies is darker. In the second quarter Japanese output shrank sharply, largely because consumers had accelerated purchases in the first quarter in order to avoid a consumption-tax rise. The euro zone’s woes are harder to dismiss: second-quarter output was flat, and it remains no higher than it was in 2011.
European policymakers should study their peers. America’s Federal Reserve and the Bank of England were quick to deploy unconventional stimuli such as quantitative easing (QE), the purchase of government bonds with newly created money. They have also worried less about resurgent inflation, using “forward guidance” to reassure markets that they will take their time about raising interest rates. They have been proved right to be relaxed: inflation in both countries remains below targets of 2%. Their stimulus has compensated for overly tight fiscal policies and kept deflation at bay.
The European Central Bank (ECB) reacted with admirable force to the global financial crisis. But it has dragged its feet since then. It has underestimated the threat of deflation, going so far as to raise interest rates in 2011 to choke off a non-existent threat of inflation. It continues to resist QE.
The demon of deflation
This has been costly. The ECB cannot be blamed for harsh fiscal austerity, nor for the fragility of banks, both of which have crippled growth. But it bears responsibility for inflation, which has sunk to 0.4%, dangerously close to deflation, and far below its target of nearly 2%. Confidence in its inflation target is eroding: in financial markets, expectations of inflation over the next five years have tumbled. This should frighten the bank—once entrenched, such expectations are hard to dislodge. Low inflation, and still more, deflation push up real interest rates and force businesses, households and governments to slash spending in order to keep their debt burdens from growing.
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It is true that the ECB faces obstacles that its peers do not. Mario Draghi, the bank’s president, lacks the political backing for QE that his counterparts have in America, Britain and Japan; Germany’s influential Bundesbank opposes the idea. Many of the region’s biggest problems—burdensome taxes, excessive regulation, rigid labour markets—have nothing to do with monetary policy. Moreover, if the ECB bought government bonds now, some argue, it would take the pressure off the likes of Italy and France to enact structural reforms.
This is flawed thinking. Structural reforms are needed and would doubtless make the ECB’s job easier. But the failure of politicians to do their duty is no reason for the bank to shirk its own. Anyway, such reforms will take years to bear fruit, and the euro zone needs stimulus now.
Would QE work? With German bond yields below 1%, pushing them lower would not release a surge of borrowing; nor would it help small firms which banks refuse to lend to. But massive buying of government bonds and forward guidance are powerful signals of a central bank’s determination to bolster growth and keep inflation on target.
The Bank of Japan’s experience is instructive. Its previous rounds of QE, in 2001 and 2010, were timid. When it relaunched the policy last year, it did so with the scale, political support and rhetorical commitment needed to jolt the country out of its deflationary expectations. Early results are modestly encouraging: expectations seem to be shifting, a prerequisite for faster growth.
The lesson for the ECB is that QE and a credible commitment not to panic at the first whiff of inflation can work. These would be bold moves for an institution whose mandate is to keep inflation down. But, as its counterparts in America, Britain and Japan have shown, boldness pays.
This article appeared in the Leaders section of the print edition under the headline "Be bold, Mario"
