The Policy Debate Europe Needs
How can the eurozone get the fiscal stimulus it needs, and which European Central Bank President Christine Lagarde is urging, in the face of the refusal by some countries, starting with Germany, to run budget deficits? There is a good answer, but it doesn't involve attempting to cicumvent the intent of the ECB's statute.
SASKATOON – The eurozone is in a bind. Despite successive doses of monetary stimulus by the European Central Bank, inflation remains stubbornly below target. Conventional monetary policy and even quantitative easing evidently have limited potency when interest rates are at or near zero.
Monetary skeptics worry, moreover, that lowering rates further will damage Europe’s banks. Additional asset purchases beyond the monthly level of €20 billion ($22 billion) already agreed, they warn, will impair the liquidity of financial markets. By pushing up asset prices, the ECB could expose the financial system to stability risks when those lofty prices return to earth.
The obvious event precipitating this return would be a recession. And when this downturn materializes, the ECB will have limited room for offsetting action, again because interest rates are already low.
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