The Big Easing

BRUSSELS – More than three years after the financial crisis that erupted in 2008, who is doing more to bring about economic recovery, Europe or the United States? The US Federal Reserve has completed two rounds of so-called “quantitative easing,” whereas the European Central Bank has fired two shots from its big gun, the so-called long-term refinancing operation (LTRO), providing more than €1 trillion ($1.3 trillion) in low-cost financing to eurozone banks for three years.

For some time, it was argued that the Fed had done more to stimulate the economy, because, using 2007 as the benchmark, it had expanded its balance sheet proportionally more than the ECB had done. But the ECB has now caught up. Its balance sheet amounts to roughly €2.8 trillion, or close to 30% of eurozone GDP, compared to the Fed’s balance sheet of roughly 20% of US GDP.

But there is a qualitative difference between the two that is more important than balance-sheet size: the Fed buys almost exclusively risk-free assets (like US government bonds), whereas the ECB has bought (much smaller quantities of) risky assets, for which the market was drying up. Moreover, the Fed lends very little to banks, whereas the ECB has lent massive amounts to weak banks (which could not obtain funding from the market). In short, quantitative easing is not the same thing as credit easing.

The theory behind quantitative easing is that the central bank can lower long-term interest rates if it buys large amounts of longer-term government bonds with the deposits that it receives from banks. By contrast, the ECB’s credit easing is motivated by a practical concern: banks from some parts of the eurozone – namely, from the distressed countries on its periphery – have been effectively cut off from the inter-bank market.