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Avoiding the Japanification of Europe

The COVID-19 crisis has upended many existing European Union rules and institutional guidelines. If EU leaders take this as an opportunity to pursue radical, forward-looking change, the COVID-19 upheaval could move the bloc to a better place.

BOLOGNA – As monetary and fiscal authorities have acted aggressively to blunt the COVID-19 pandemic’s economic impact, public debt and central-bank balance sheets have swelled rapidly. In the European Union, this trend is compounded by a new €750 billion ($886 billion) COVID-19 recovery fund, which includes the issuance of so-called “recovery bonds” guaranteed by the EU’s multiyear budget and, possibly, by Europe-wide taxation.

This is a whole new world for all advanced countries except one: Japan. It is not the “nice” world of the 1990s, characterized by stable inflation, steady output, fiscal prudence, and a narrow central-bank focus on manipulating short-term interest rates to meet inflation targets. But nor does our turbulent world resemble that of the 1970s, marked by high inflation, volatile output, fiscal profligacy, and excessively accommodative monetary policy.

In today’s world, inflation is very low and is expected to remain so, and monetary authorities enjoy significant credibility – much more than in the past. Advanced countries are headed for a situation in which the distinction between monetary and fiscal policy is merely academic, and debt consolidation is unrealistic.

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