Home > ECB, EMU Crisis, Fiscal Policy, Monetary Policy > Mario Draghi is a Lonely Man

Mario Draghi is a Lonely Man

January 10, 2014 Leave a comment Go to comments

I just read an interesting piece by Nicolò Cavalli on the ECB and deflationary risks in the eurozone. The piece is in Italian, but here is a quick summary:

  • Persisting high unemployment, coupled with inflation well below the 2% target, put deflation at the top of the list of ECB priorities.
  • Mario Draghi was adamant that monetary policy will remain loose for the foreseeable horizon.
  • As we are in a liquidity trap, the effect of quantitative easing on economic activity has been limited (in the US, UK and EMU alike).
  • Then Nicolò quotes studies on quantitative easing in the UK, and notices that, like the Bank of England, the ECB faces additional difficulties, linked to the distributive effects of accommodating monetary policy:
    • Liquidity injections inflate asset prices, thus increasing financial wealth, and the value of large public companies.
    • Higher asset prices increase the opportunity costs of lending for financial institutions, that find it more convenient to invest on stock markets. This perpetuates the credit crunch.
    • Finally, low economic activity and asset price inflation depress investment, productivity and wages, thus feeding the vicious circle of deflation.

Nicolò concludes that debt monetization seems to be the only way out for the ECB. I agree, but I don’t want to focus on this.

The job of a central banker is extremely hard nowadays, and it is becoming more and more hard to justify why the task of stabilizing the European economy must be left on the shoulders of the ECB alone.

When arguing in favour of fiscal policy over monetary policy, Keynes had in mind precisely a liquidity trap situation like the current one, with excessive hoarding by the private sector, and broken transmission mechanisms from interest rates and liquidity to real activity. In these cases,monetary policy loses traction, and  the witness has to be taken by fiscal policy until private spending resumes.

But the situation Keynes describes is a piece of cake compared to what Mario Draghi is facing. On top of the liquidity trap, SuperMario needs to deal with a suffering banking sector, with the effects of asset price inflation that Nicolò highlighted, and last but most important, with a monetary union that is both incomplete and non optimal: diverging economic performances, very limited automatic rebalancing forces, schizophrenic institutions; (think of the banking non-union compromise). The ECB has a couple of instruments, and faces half a dozen objectives at least.  No wonder Draghi has a hard time sharing Barroso’s upbeat mood.

In the past month the discussion on austerity and on fiscal policy in general has disappeared from the public debate. And yet, we are confronted, more than ever, with the absurdity of a mix of rules and ideology (the latter shaping the former) that prevents the implementation of a commonsensical policy mix: differentiated and coordinated fiscal policies (consolidation in the periphery accompanied by expansion in the core), and a sharing of tasks with the ECB. Bold action should be taken to put fiscal policy at the centre of the scene, from a revision/repeal of the fiscal compact, to a common management of public debt. But no, eurozone governments are inert, happy with themselves, and cheering at the dead cat bounce effect. Tout va très bien, Madame la Marquise

Mario Draghi today is more lonely than ever.

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  1. January 10, 2014 at 2:24 pm

    I believe Mario Draghi understands that he is facing an impossible task. Running a monetary policy appropriate for 18 different countries is just nonsensical. I would like to receive frank answers from him as concerns the following two questions: (1) are you aware that the euro monetary system and the eurozone economic governance can be reformed to provide each country with the required flexibility to implement appropriate policies, WITHOUT breaking the euro up and WITHOUT repealing the existing treaties – doing something like this ? http://bastaconleurocrisi.blogspot.it/2013/09/tax-credit-certificates-certificati-di.html (2) if so, are you happy with the idea of decentralizing policymaking back to individual countries ?

  2. Fabio Tamburrini
    January 11, 2014 at 1:22 am

    Dear prof. Saraceno, this is the first time I read your blog and I’ve already added it to my bookmarks 🙂 I agree with your and Cavalli’s analysis but I’m particularly curious about your idea on monetization that you did not discuss. I have been thinking since a couple of weeks that the only channel to make liquidity flow towards the real sector would be fiscal policy and in particular government spending financed by monetization. In this situation both government spending and an increase in the money supply would be healthy. Furthermore even the inflation risk correlated with monetization could be considered good.

    I would really appreciate a contribution on this blog about this issue. Thank you for the interesting reading.

  3. January 11, 2014 at 6:33 pm

    Really enjoyed your post! Couldn’t agree more with your conclusions. The fact of the matter is that both monetary and fiscal policy are constrained by the demand for money (a.k.a the desire of the public to stuff money in mattresses and bank accounts). Since 2008, there has been a dramatic increase in the demand for money. The US Fed has met that demand with QE (Not sure if that’s the case in Europe – I believe, the risk of euro shortage persists).

    Active monetary policy does come with side effects, though. Since central banks do not control the demand for money, their efforts to manage the business cycle have resulted in asset booms and busts. Here, http://tinyurl.com/q8pmmb2, I refer to evidence that changes in US demand for money are directly correlated to asset prices. In a downturn, the Fed will supply reserves to meet the increased demand for money. However, on the upswing, the Fed will not withdraw these balances timely because it gets its cues from inflation and unemployment in the real economy. Money balances on the other hand are concentrated with large corporations and the wealthy who have lower propensity to spend and invest and instead, prefer to churn their money in an asset bubble.

    Along the lines of what you are suggesting (debt monetization), I am advocating a hybrid approach between monetary and fiscal policy, which overcomes the lower zero bound but also eliminates government waste and inflation risks associated with unrestrained fiscal deficits. The idea is to shifts control over fiscal deficits and surpluses to the Fed. (more on that here http://tinyurl.com/lnzdcch). Such approach will allow the Fed to manage the money supply through real monetary flows rather than asset money, which is nothing more than fuel for asset booms and busts.

  4. January 11, 2014 at 9:06 pm

    Regional framework agreements will be the way forward; these will establish a One Euro Government; it will establish regional security, stability and sustainability out of a soon coming credit collapse and global financial system breakdown

    The bond vigilantes in calling higher in the Benchmark Interest Rate, ^TNX, higher from 2.48%, on October 23, 2013, as well as the failure of debt trade investing and currency carry trade investing on January 2, 2013, were twin extinction events that destroyed the foundation, capstone, and centerpiece of liberalism, that being the investor; and are birthing authoritarianism’s counterpart, the debt serf.

    God fully, totally, and utterly terminated liberalism, and commenced authoritarianism, giving it The full constitution of endtime rule, as presented by the Apostle Paul in Revelation 13:1-4.

    Now, under the paradigm and age of authoritarianism, the focus of attention is on regional governance policies seeking regional security, regional stability, and regional sustainability, which integrate not only banks, but all corporations into the government to assure debt servitude of the debt serf, which comes through the transmission of diktat money. We see this emerging as Mike Mish Shedlock reports on the rising ethic of authoritarian rule Hollande wants to “Get Things Done” by decree, not by passing laws.

    Five years of liberalism’s money manager capitalism is going to produce authoritarianism’s Minsky moment. This is seen in Bible Prophecy of Revelation 13:3-4, which foretells of Financial Apocalypse, that is a world wide credit bust and financial system breakdown.

    Club Med insolvency, that is Portugal, Italy, Greece and Spain, sovereign, corporate, and banking insolvency, are the genesis event of the establishment of economic policies of diktat in regional governance in each of the world’s ten regions, and schemes of totalitarian collectivism throughout all of mankind’s seven institutions. As a result, fiat money will become increasingly worthless, while diktat money rises in power to direct mankind’s economic activity.

    Under liberalism, the democratic nation state banker regime, created seigniorage, that is moneyness, and coined fiat money and fiat wealth through Investment Bankers via POMO, as well as through Asset Managers, such as, BLK, WDR, EV, STT, WETF, AMG, IVZ, CNS, AMP, PFG, LM, FNGN, BEN, VOYA, DNB, MORN, BR, and BX, where they endeavored to maximize return for investor; these proved to be quite effective in monetary transmission, as the investor, for the most part, became quite wealthy according to his skills and risk profile.

    Creditism, corporatism and globalism were the dynamos of liberalism’s economic activity, whose purpose and focus was for investment return. Economic growth metrics, such as job creation, ADP Employment, increasing GDP, are hokum, that is they are exogenous to liberalism’s purpose of providing investment return for the investor based upon one’s risk profile. Monetary transmission under liberalism was quite effective in a five investment areas: 1) Risk Investing, 2) Global Spending Investing, 3) Global Growth Investing, 4) Consumer Spending Investing and 5) Eurozone Countries.

    Under authoritarianism, in response to a deflatinary bust, leaders will meet in summits to renounce national sovereignty and announce regional framework agreements which provide regional pooled sovereignty to establish the authority for diktat policies of regional governance.

    The beast regime, replaces the banker regime, and creates seigniorage, that is moneyness, by minting money through the word, will and way of regional nannycrats; these coin diktat money through the mandates of statist public private partnerships, and in their mandates administering and overseeing the factors of production, banking, fiscal spending, commerce and trade, all for establishing regional security, stability, and security, in their role of overseeing the debt serf.

    Banks everywhere will be integrated into the government and be known as government banks, or govbanks for short; thus the Excess Reserves, will be captured by the beast regime, and not being released will not pose an inflationary threat. The Regional Banks, KRE, and the Too Big To Fail Banks, along with greatly downsized Asset Managers, BLK, WDR, EV, STT,WETF, AMG, IVZ, CNS, AMP, PFG, LM, FNGN, BEN, VOYA, DNB, MORN, BR, and BX, will all be made whole and sterilized by integration into the US Federal Reserve. The European Financials, EUFN, will be integrated into the ECB in Frankfurt, where all lending will be supervised and banks overseen. Such will be the mechanism of authoritarianism’s scheme of totalitarian collectivism.

    Regionalism is the singular dynamo of economic activity under authoritarianism. Monetary transmission will become quite effective for a number of people, as bible prophecy reveals “they worshiped and followed after the beast, saying who can make war against it”, Revelation 13:3-4.

  5. Christian Dalenz
    May 10, 2014 at 1:52 pm

    I can’t find Cavalli’s article…the link seems broken

  1. January 12, 2014 at 4:23 am
  2. January 12, 2014 at 4:25 am

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