ROME: Six weeks into the Euro's life, Europe's economic policies are out of whack. Europe has high public debts, taxes near 50% of national product, and years of high unemployment and mediocre growth. So what's the response? A tilt toward monetary rigidity and an expansive fiscal policy through a creeping abandonment of the EU Stability Pact. In addition, proposed employment strategies will do little to reduce labor market rigidity.
Europe craves the opposite mix: more monetary flexibility, fiscal policies that reduce taxation and national debt, and a labor policy that makes Europe's labor markets more akin to America's. These three cardinal policies are related.
Monetary Policy. The European Central Bank (ECB) pursues price stability defined as annual inflation of around 1%. At this delicate moment in the world economy the ECB is seeking to establish its anti-inflation credibility at the very moment when the spectre of deflation is appearing for the first time in half-a-century. Debtors worldwide face a risk of bankruptcy which, if widespread, could lead to a dangerous recession. The ECB's choice, strangely, focuses more on its own anti-inflation posture than deflation.
Compare European monetary policy with American actions. America's Fed follows a rule of monetary policy whereby the prime objective of controlling inflation permits, according to precise parameters, a reaction to changes in the rate of growth. This policy works, leading to a long period of stable, uninterrupted growth. The ECB should follow a similar course.