Over the past several years we have witnessed how hard it is for the European Central Bank to fight against the deflation, since fragile countries were unable to focus the borrowed funds to stimulate growth. However, particular governments are still having a bet on inflation. In 2017, if inflation proceeds, so there will be even more unemployed, and purchasing power, which is now much reduced by stagnation and taxation, will further be lowered.
Since the financial debacle of 2008, caused by the monetary policy of these same central bankers, a real war against savers has begun to lower interest rates and consequently the recompense of savings, followed by the lower refinancing rate almost on zero level and Quantitative Easing programs.
There are many common disparagements with QE programs that need to be analyzed since they remain significant in the European structure, which will require some additional comments given the particular European economy. First of all, the increase in liquidity caused by Q.E does not wash out the real economy but is largely directed towards the financial sectors. The EU benefits less from the wealth effect of an increase in stock market assets than in the United States, where pension funds or inducements make income more responsive to market conditions. This is something that could be expected since this is something to be pleased about by all those subjects who have recently seen inflation as a benefit, which is contradictory in many ways. In fact, the accumulation of public debts has reached such a level that monetary policies will have to transform, and inflation will make its return with its instruct of dislocations, unemployment, and various types of injustices.
All these measures combined with tighter regulations and heavier taxation have led to an end of private investment and a deflationary spiral. Some might say that this could represent the beginning of the end of the EU, or the end of the Eurozone, which is not untrue. Inflation is a lasting turn down in the value of money, leading to an extensive and persistent boost in the general level of prices, which is reflected in the expectations of economic representatives. Currency is not only an expression of the value of commodities like the indicator for the distance or the kilogram for the weight but serves as a connection between the present and the future.
Price stability, which describes the situation where price fluctuations are very low or do not exist, does not concern the decisions of economic subjects as they are standardized across all economic areas. On the other hand, the behavior of economic subjects, responsive to inflation or deflation, influences the development of inflation. Individuals try to preserve their real cash balances because they are not fooled by the monetary illusion created by inflation and they require the maintenance of their purchasing power in real terms.
In economics, monetary illusion consists in considering the nominal value of money rather than its real value. This illusion has the effect of confounding money and its purchasing power, or confusing money and wealth; It is also believed that money has intrinsic value whereas its real value derives only from its ability to be exchanged for goods (purchasing power) or to be able to pay taxes. The extreme manifestation of this illusion, which has become pathological, leads states to inflation or hyperinflation through the abuse of the “printing press”. By extension, moneymaking subsequently designates any creation of fiduciary money at the discretion of a central agency, such as the central bank, without necessarily using the paper medium, because the mechanism is entirely virtual and computerized. Periphrases are used to hide the arbitrary and inflationary nature of the process.
Central banks are expected to contain inflation by raising interest rates and avoiding deflation by reducing them. This is called a counter-cyclical policy. We try to offset the economic cycle to make it more stable. The economic circumstances have been horrific for several years, especially in Eurozone. The character of inflation is that it eases the weight of debts and fixed costs so that it can even decide households to spend more and to restart guidelines. In contrast, price stability would have a depressive consequence, since it would go along with the policies of severity carried out by governments passionate about the balance of public finances.
A measure is not sustainable over time with no risk of a bank run, or at least the outflow of deposits, which would expose the stability of the financial system. To avoid that governments must therefore first make the conversion to a totally electronic currency, consequently eliminating the possibility of disposing of money in the form of banknotes held outer the banking system. Also, public expenditure is funded by borrowing or tax. A possible assumption is that the establishment creates money directly or indirectly to finance public debt, while this solution is not possible if the money is tied to a standard, to a measure such as gold. In this case, the currency is autonomous of government policy. In the past, the gold standard restricted the power of the monetary authorities.
There are several Eurozone countries, including Germany, Spain, and Belgium, where inflation rates were raising for more than eight months, while in Italy, Portugal, and Greece they are still below the inflation mark.It appears that the QE in the EU was just another step in the current policy. The ECB has previously gone a long way in manipulating interest rates without any visible effect. In many of these situations, the answer of national central banks is to hope inflation rates between countries will level off, and consequently, by setting a rate for the whole of Europe, they do their job well. The main European central bankers consider that differentiated inflation rates within Europe are basically not their problem and for them, the Eurozone is complete.
ECB has played only on the conservative methods so far, which was acceptable by its statutes, so it is clear that the enthusiasm displayed by many national central banks contrasts with the European economic slowness. However, each country individually has a very dangerous state of inaction. Some of them, such as it is the case with Spain, stuck in incredibly low interest rates and high inflation. The result of the ECB’s policy is exactly worsening the inflation in countries where inflation is high and strangles those where inflation is low and Spanish authorities are very aware that if they miss this opportunity to react, there will be a fake speculative bubble financed by the debt that will burst subsequently, as it was the case at the beginning of this century.
On the other hand, it seems that the method of spread of monetary policy is not working, or is at least detained. The spread means that the effects of changes in the key rate have a collision on the economy as a whole, down to the rate of inflation. This can be explained by the caution of banks to lend to the private sector as a result of recent stress tests and the rules set during 2010. The negative position for European growth prompts banks to transfer to the private sector, so all that has been discussed is not even done in the situation of a policy of quantitative easing by the ECB and yet some are pressing the ECB to take action as if what has been done in recent years was of no advantage.
Unnecessary risk-taking must not be unobserved, and the risks of extending such policies must be taken into account, as the US example shows. The risks of deformation of price mechanisms and of return to hazardous situations must rise as an internment specter to avoid the drifts of the past. Besides that, the ECB could move up interest rates to fight inflation in Germany, Spain, and Belgium, but Greece could not be in the group of countries that see any benefits of action as such. This would strangle economic growth, and not to mention the government’s budget, which cannot have enough money for other interest charges, which represents an essential distinction. The truth is that the ECB has no way out, but we know that central bankers favor inflation to become out of control rather than deflation, and that is the narration of all currencies that ever existed so that the euro is not an exception. Also, this situation offers outstanding investment opportunities, since the countries, including Germany, are experiencing the real estate boom they had missed a decade and a half ago, when interest rates were high, while the situation has changed so far. Many other governments of euro users cannot afford an increase in interest rates, since having too much debt. They are quite satisfied to see inflation biting this debt while the ECB keeps interest rates low.
If we take a closer look at government bond yields we see that the interest rate that the government has to pay to borrow more money and in this situation if the inflation has the actual rate, they are extraordinary. However, those who buy government bonds lose money, while governments make money on their borrowings accustomed to inflation. As long as this trend maintains, governments will be satisfied to have high inflation and low interest rates, while the bubble enlarges as less than two decades ago. When inflation happens to be out of control in Europe’s flourishing countries, or an increase in interest rates will pose problems for ailing economies, countries will have need of restoring control of their own monetary policy, though it would be such a hard kick that the EU could not stand. It is therefore essential to keep an eye on the next inflation statistics and on the other the interest rates of the ECB. EU countries are heading straight to destroying whatever pathway it takes.
In a more explicitly EU situation, many raise the inappropriateness of such an arrangement with the economic and financial destruction of all the countries of the Eurozone. As decades of deficit have collected, the QE program would be in opposition to any true or fictive efforts to decrease deficits. The idea of an EQ program is a sovereign debt buy-back by the ECB, which gives the ECB more power to lend to the economy. It is also a means of reducing the pressure on some governments currently in difficulty, giving them a bigger boundary for the tactic. In this situation, the emerging countries blame their central banks for scams, since they are experiencing the biggest losses in this situation.
Besides that, declining rates are apparently an essential condition for the search for this solution. For example, if one repays a loan at 7% by borrowing at 4% then if they pay off the loan at 4% with another contracted at 1,5%, they can make an illusion, since each time one borrows again, they get just another balloon of hope. In the opposite case, when interest rates increase, everyone should understand that the rise crashes fast enough into the wall. Therefore, central bank actions have only one intention and that is to avoid rates from growing to make the growth last. In this situation, European countries must reorganize their public finances when years of incentive spending have revealed enormous imbalances in their finances. Austerity budgetary policies, that are essential to correct this situation, would definitely run counteracts to the EQ and in that way cancel its supposed stimulus outcome.
Besides that, another practical concern is that the debts of the Eurozone are spotted among all its countries, and consequently there is a greater complication when the problem arises as to which securities of which countries may be subject to acquisition. This question arises from the political pledges within the Eurozone, especially between those countries whose situation differs drastically. However, even the simple announcement of an EQ could have negative effects, since it is difficult to see how the situation can recover, where this is only an effort to delay the reality.
It is true that many EU countries are facing several problems today and one among the biggest is that its monetary condition remains critical as the money supply growth remains virtually non-existent, despite already very accommodating ECB policy, for example when the rates are close to zero. This means that the spread mechanism of monetary policy is not working, since, during the innovative regulations and stress tests, banks have become cautious when it comes to lending to the private economy. Very slow growth with negative outlooks does not support them to lend more, while they are consequently encouraged to refill their margins in the markets and to provide risk-free to others.
Central banks of emerging countries are required to switch the work of their beneficiary citizens and the goods of those countries against debt denominated in a certain currency (US dollar or euro), while this is acceptable if this debt offers them something, such as upright interest, but this is not even the theoretical case since the rates are extremely low. A more forceful monetary situation could be provided by more opportunities for additional solutions in terms of both monetary and lending practices. In this situation, it seems that a new monetary model must emerge less central bank policies and more innovative market solutions to stimulate economic growth.
This is the reason why, after several years when deflation has been the main problem, this will be the year when we will see the big return of inflation and all of its negativities, such as the increase of unemployment rate and the reduction of purchasing power, which will lead to the stagnation and tax collection and budget losses. This year will show a serious need to return to monetary strictness and the cutback of the public debt without repeating QE procedures, as well as without borrowing to pay off what has been borrowed in the past.
This article is part of the academic publication Dividing by Zero by Ana Nives Radovic, Global Knowledge 2018