Opinion

Delays and half measures

Are the eurozone’s continuing woes the result of its incomplete construction or because of policy errors in responding to the crisis?

By: Date: January 13, 2016 Topic: European Macroeconomics & Governance

This op-ed was originally published in Handelsblatt and Sunday Business Post.

handelsblatt logoSunday business post

The euro area member states gave up monetary policies for countering economic adversities, but the founding fathers lacked political will to compensate with pooled resources for helping each other. This incompleteness is surely made worse by wrong-headed policies, delays, and half measures. That said, the distinction is overstated: the incomplete monetary union and repeated policy errors likely come from the same source.

Recent research shows the ECB fell behind the curve at critical junctures of the crisis. As the U.S. Federal Reserve slashed interest rates to fight the Great Recession, the ECB at first raised the policy interest rate in July 2008. That hike came just as euro area industrial production began a prolonged economic contraction. In April and July 2011, the ECB raised interest rates when the American rate was near zero and the Fed was adding stimulus through quantitative easing.

Aside from the Outright Monetary Transactions promise in July 2012 to bail out countries in distress, the ECB has been unable to inspire confidence. Since late-2013, it has reacted to rather than led the fight against deflationary tendencies. ECB President Draghi has made an art of coyly promising more measures “if needed,” or if low inflation is “prolonged,” or “too prolonged.” While such ambiguity often serves central bankers well, markets have regarded actions taken as “too little, too late.” Earlier this month, the ECB announced new measures hoping to spur economic activity and inflation. But the criticism was swift. Stock markets “tumbled, said the Wall Street Journal, “because the European Central Bank served up a package of stimulus measures that fell well short of many investors’ expectations.” Abnormally low inflation has persisted, and the ECB’s credibility continues to be damaged.

Fiscal austerity set the euro area back in 2011-13. But the orthodoxy still denies that cuts in governments spending hurt growth, more so the weaker the economy.  Subjected to five years of draconian austerity, Greek voters have pleaded over the past year that this calamity be stopped. But the creditors require further consolidation of 3½ percent of GDP. And although this would cause Greek GDP to contract by about 7 percent, the creditors project a miraculous resumption of growth.

The costs of long delays in dealing with distress in small and medium-sized banks are becoming apparent. Italian authorities just had a taste of the minefields that lie hidden in their banking system. These will only increase if painful decisions are avoided.

As 2015 ends, euro area output is finally back to its 2007 level. Inflation, has been stuck well below the ECB’s 2% goal. Recent signs of growth in household consumption are welcome. But this is a bounce back after a long spell of deep austerity, and is unlikely to persist. Half a century of evidence tells us that European economic growth is tightly tied to world trade growth. And unless world trade growth picks up from its doldrums—and the pickup will be weak as long as China struggles to find a new equilibrium—low growth and inflation will likely continue in the euro area.

So, is the problem the incomplete monetary union or policy errors? The answer is that the same divergent national interests and ideologies that caused the monetary union’s incompleteness now cause the delays and inability to learn. The structure is held together by enforcing groupthink, which ignores evidence and discourages criticism. Groupthink led to the euro’s construction despite overwhelming evidence of its flaws. Policy errors feed on that original hubris because any risk of paying another sovereign’s bills is intolerable. Now France, Italy, and Spain plan to defy austerity rules and impart fiscal stimulus in a self-interested rebellion from the groupthink. This would be good for the rebels and the euro’s best hope.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint.

Due to copyright agreements we ask that you kindly email request to republish opinions that have appeared in print to communication@bruegel.org.

View comments
Read about event More on this topic

Upcoming Event

Jun
14
12:30

Lessons for the future governance of financial assistance in the EU

On 14th June, Randall Henning will present his latest book on the Euro crisis and we will discuss how financial assistance should be governed in the euro area in the future.

Speakers: Servaas Deroose, C. Randall Henning, André Sapir, Rolf Strauch and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read article More on this topic More by this author

Opinion

Guntram B. Wolff

Europa sinnvoll gestalten

Die Debatte um die Zukunft Europas sollte gerade in Deutschland konstruktiv geführt werden. Es profitiert von einer stabilen EU und trägt entscheidend zur Fortentwicklung Europas bei. Einer zentralen Diskussion wird man sich stellen müssen: Wie kann die Stabilität des Euroraums erhöht werden? Der hier skizzierte Ansatz wäre eine Möglichkeit für einen Kompromiss.

By: Guntram B. Wolff Topic: European Macroeconomics & Governance Date: May 10, 2017
Read article More on this topic More by this author

External Publication

palgrave handbook of european banking

The Banking Union: An Overview and Open Issues

Dirk Schoenmaker's chapter in 'The Palgrave Handbook of European Banking', a handbook that collates the expertise and research of leading academic and senior policy makers in the field of European banking

By: Dirk Schoenmaker Topic: Finance & Financial Regulation Date: May 2, 2017
Read article More on this topic More by this author

Blog Post

B Coeuré - photo

Central bank communication in a low interest rate environment

Speech by Benoît Cœuré, Member of the Executive Board of the ECB, at an event organised by Bruegel, Brussels, 31 March 2017

By: Benoît Coeuré Topic: European Macroeconomics & Governance Date: March 31, 2017
Read article More on this topic More by this author

Blog Post

DSC_0794

Why was the last TLTRO take-up unexpectedly high?

The final round of TLTRO financing was an unexpected hit with euro area banks. The aim of the programme is to encourage banks to increase lending to the real economy. However, with many now expecting a hike in deposit rates, banks’ enthusiasm might be driven largely by the chance to make a profit from the cheap loans.

By: Justine Feliu Topic: European Macroeconomics & Governance Date: March 27, 2017
Read article More on this topic More by this author

Blog Post

Silvia Merler

The inflation basket case

Inflation in the euro area has finally reached 2%. But Draghi is right to warn that the underlying dynamics do not point to this being a self-sustaining trend. Breaking down the numbers shows that many inflation basket items are still showing weak price growth or even deflation.

By: Silvia Merler Topic: European Macroeconomics & Governance Date: March 17, 2017
Read article More on this topic More by this author

Opinion

Guntram B. Wolff

What future for Europe?

The Commission's White Paper on the future of the EU sets out five scenarios, but misses the fundamental questions facing Europe. How should the EU interact with its neighbourhood? How can we manage the tensions created by multi-speed integration? And above all how can the Euro be made sustainable in the absence of a major step towards fiscal union?

By: Guntram B. Wolff Topic: European Macroeconomics & Governance Date: March 16, 2017
Read article More on this topic More by this author

Blog Post

Grégory Claeys

Debunking 5 myths about Frexit

French elections are fast approaching and the debate on euro membership is now in full swing. ‘Frexit’ supporters promise that the benefits of leaving the euro would be substantial for the French economy, that economic policy would be greatly improved, and most importantly that the exit process would be a piece of cake. This blog post shows that these claims are greatly exaggerated if not outright lies.

By: Grégory Claeys Topic: European Macroeconomics & Governance Date: March 10, 2017
Read article Download PDF More on this topic

Working Paper

WP_01_17 cover

Fundamental uncertainty and unconventional monetary policy: an info-gap approach

This paper applies the info-gap approach to the unconventional monetary policy of the Eurosystem and so takes into account the fundamental uncertainty on inflation shocks and the transmission mechanism.

By: Yakov Ben-Haim, Maria Demertzis and Jan Willem van den End Topic: European Macroeconomics & Governance Date: February 28, 2017
Read article More on this topic More by this author

Blog Post

Silvia Merler

Is Germany a currency manipulator?

What’s at stake: the Financial Times reports that Peter Navarro, head of the US’s National Trade Council, has accused Germany of currency manipulation. He claims that the country uses a 'grossly undervalued' Euro to 'exploit' its trading partners. Angela Merkel replied that the Euro is managed by the European Central Bank, on which Germany does not exert influence. We review what the economic blogosphere thinks of this.

By: Silvia Merler Topic: Global Economics & Governance Date: February 6, 2017
Read article More on this topic More by this author

External Publication

9781785369315-thumb

EU economic governance: euro area periphery lessons for Central and Eastern European countries

An analysis of macroecnomic developments shows that Central and Eastern European (CEE) EU member states fared much better in the aftermath of the crisis compared to euro-area periphery countries. Furthermore, they have a better chance to avoid the problems that the euro-periphery countries faced before the crisis.

By: Zsolt Darvas Topic: European Macroeconomics & Governance Date: December 9, 2016
Read article More on this topic

Opinion

MariaDemertzis1 bw
Guntram B. Wolff

Eurozone QE and bank profitability: Why it is too early to taper

In the eyes of the critics, the quantitative easing programs have been of little help to growth and inflation and have instead been an attack on savers, undermining the profitability of banks and insurances. Do these arguments stand scrutiny?

By: Maria Demertzis and Guntram B. Wolff Topic: European Macroeconomics & Governance Date: December 8, 2016
Load more posts