Even Powerful Central Banks Need Help
This week, two of the world's most powerful policy makers -- U.S. Federal Reserve Chair Janet Yellen and European Central Bank President Mario Draghi -- will explain to the public and politicians how they plan to bolster lackluster economic recoveries. At the moment, there's little new they can or will say and do.
Yellen, who will testify before the Joint Economic Committee of Congress, is in a better position in relative terms. The economy is recovering from a weather-induced slowdown, and the deep wounds inflicted by the global financial crisis are healing. Markets seem comfortable with her policies, and second-guessing from the academic community and other central bank watchers has waned.
Not so for Draghi, who on Thursday chairs a meeting of the Governing Council, the ECB's most senior policy-making body, and then holds a news conference. A downward revision of the European Commission's growth forecast has underscored doubts about how far the recent acceleration in economic activity will go. European governments worry about an overly strong exchange rate and an impaired banking and credit system. Then there are legitimate concerns about the risk of deflation, and the serious stagflationary threat from the deteriorating situation in Ukraine.
The prospect of a Japan-like period of stagnation -- including a lost decade for Europe's unemployed, especially the young -- has many urging the ECB to be more aggressive. They would like to see further interest-rate cuts combined with a bold new bond-buying program. Some have gone so far as to recommend that the central bank seek to ease credit conditions through large-scale purchases of bonds issued by private borrowers as well as governments.
Others urge caution and patience. Recognizing that unconventional measures have had only limited success elsewhere in boosting growth, they worry that further ECB intervention would introduce yet another set of distortions that would complicate the healing of the European economy.
It's a tough call, but I suspect that the ECB would prefer to err on the side of caution and patience: Rather than act this week, the central bank may end up waiting until next month or even longer. Such a delay would provide ECB officials with time to parse additional data before embarking on a path that is not easy to reverse quickly. Any "insurance" that immediate stimulus measures might provide against the impact of the Ukrainian crisis would be partial at best.
Hence, expect the ECB to give essentially the same message as the Fed will, even though initial conditions differ: We're maintaining the current policy stance while watching the potential economic risks, and we're committed to take further action should the economy weaken in an unexpected manner.
They will also be united on another issue: the need for other government entities -- national in the case of the U.S., both national and regional in the case of Europe -- to do their part to support the recovery. In the U.S., that would include spending more on infrastructure, rebalancing the fiscal stance and clarifying what lies ahead for tax reform. In Europe, it would involve deeper structural reforms at the national level, combined with additional progress at the regional level to strengthen the four pillars of European integration (namely, banking, fiscal, monetary and political).
As hard as the Fed and the ECB try, and both are trying very hard, neither can realistically deliver what is expected of them if they are left to carry the enormous policy burden on their own. Unfortunately, the help they need to deliver favorable long-term economic outcomes does not appear to be forthcoming anytime soon.
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