The long-awaited decision by the European Central Bank has finally been taken amid some resistance, it must be said. In November last year, governing council member Ewald Nowotny had said that the ECB “never should say never” to quantitative easing, but he added that such a programme was not in sight. He also stressed that the ECB should not be jolted into action every month.
Despite resistance, and only a couple of months later, the ECB announced an expanded asset purchase programme aimed at adding the purchase of sovereign bonds to its existing private sector asset purchase programmes. So what changed between November 2014 and January this year?
In my view, this is due to the recognition that the policy in the eurozone could no longer rely on the tightening of fiscal policy accompanied by structural reform to kick start economic recovery. Moreover, the austerity programme imposed on Greece especially (and the emergence of a strong leftist movement in Greece and Spain) threatens to destabilise the political ‘hegemony’ enjoyed by mainstream political parties across the EU since World War II.
For far too long, the EU has ignored lessons of economic history and is now acting in haste to address further gains by political parties
For far too long, the EU has ignored the lessons of economic history and is now acting in haste to address further gains by political parties on the extreme left and extreme right amid low economic growth rates and low inflation. This in my view goes a long way to explaining ECB’s move to resort to asset purchasing.
Asset purchases provide monetary stimulus to the economy in a context where ECB interest rates are at their lower bound. They further ease monetary and financial conditions, making access to finance cheaper for firms and households. The ECB took this decision in a situation in which most indicators of actual and expected inflation in the euro area had reached historical lows, with potential second-round effects on wage and price-setting.
Total monthly purchases will amount to €60 billion until at least September 2016 with the ECB hoping that asset purchases (with a medium-term target for inflation set at 2 per cent) will address the existing saving glut across the eurozone that threatens economic recovery and the future prosperity of the EU.
The ECB will buy bonds issued by eurozone central governments, agencies and European institutions in the secondary market against central bank money. And in doing so it hopes to stimulate much-needed investment within the EU.
What is surprising in all this is why it has taken so long for the EU to respond effectively to address the eurozone’s flagging economy. The answer is simple. Germany, especially, fought this move tooth and nail insisting that eurozone countries would refrain from reforming their economies if the ECB were to launch quantitative easing.
Allowing for differences of opinion as to what constitutes structural reform, history has shown that reform alone will not work. Germany itself required vast amounts of dollars via the Marshall Plan coupled with institutional change to help to rebuild its economy following World War II. And has Germany forgotten that its iconic VW was saved from the ravages of World War II by the British army? Production of the car designed for Adolf Hitler was restarted with an order for 20,000 Beetles for the British forces stationed in Germany.
As John Maynard Keynes realised last century, capitalism (which is the dominant economic force) when faced by a crisis as in 1929 and more recently in 2008, will not pick itself up, dust itself off, and strive towards renewed growth and capital accumulation. Instead, governments (and taxpayers) have to pick up the pieces. And resorting to quantitative easing to re-ignite economic growth is yet another measure aimed at picking up the pieces.