In a talk at Harvard, German central bank governor Jens Weidmann warned against an overload of expectations on the European Central Bank for resolving the Euro crisis. Having recently opposed a decrease in the interest rate by the ECB, he said that a protracted period of low rates could lead to higher public expenditure and an undesirable situation whereby monetary policy becomes subordinate to government spending.
Weidmann started by referring to economics as moral philosophy, and used his sense of irony to declare himself a Keynesian philosopher for the purpose of the discussion.
Who are the sinners and saints in the Eurozone crisis so far? Weidmann mentioned reckless banks that now depend on ECB liquidity lifelines; wasteful states such as Greece; Germany ignoring the EU’s deficit rules in 2003; and interestingly, governments in the Eurozone who do not have a programme monitored by a Troika and thus do not feel real pressure to reform. In an attempt to raise the pressure, the Bundesbank president proposed to put a cap on how much sovereign debt banks can hold, which would be a more effective government debt brake than fiscal rules applied too leniently by the European Commission in his view.
Other sinners are wage earners in countries such as Portugal and Spain who now need to “adjust structurally” as their countries go through “internal devaluation”. The moral dimension of economics would benefit from using clearer language: workers in the South of Europe lived above their means thanks to cheap capital and now need to make ends meet with less.
But morality takes shape in a relationship between two or more people. So what about German and French capital that flowed into the South of Europe and fuelled a bubble? How has capital in the Eurozone atoned for its sins? Benjamin Friedman, the Harvard economist who animated the talk, offered the view that the Greek population had performed a remarkable service to German and French banks by holding on to EU rescue money for a few seconds before it was transferred back to the stronger economies of Europe. Weidmann retorted that the rescue money gives these countries a chance for a smoother adjustment path than would have been possible otherwise, though he also thinks that countries should be “self-responsible” and default in case of irresponsible behaviour.
Weidmann’s solution to avoid capital doing crazy things is imposing stronger constraints on bankers. Necessary as that will be, one wonders if it is sufficient. Real interest rates in Ireland and Spain were negative in some of the early years of Euro membership. With unrestrained mobility of capital across national borders and the increased importance of alternative financial players, could a banking supervisor have turned the tide against overwhelming market incentives? Moreover, Weidmann seems to weaken the ECB as the banking supervisor by arguing that an alternative institution will be needed unless a changed EU Treaty takes the supervisory powers away from the ECB Governing Council.
Macro-economic imbalances between the Euro countries were rejected as an explanation for the crisis in deficit countries, a view advocated by Keynesian Paul Krugman in his piece “those depressing Germans“. A lot of the growing German surplus is linked to trade with China and the USA, which benefits the Eurozone. And part of the rebalancing may be underway with increasing wages in Germany. Ultimately, Weidmann’s view of monetary union seems to be one of juxtaposed national economies using the same currency, where each country has to live up to its own responsibility to prosper, and where Germany has no specific responsibility towards other Euro countries.
With quotes from political philosopher Michael Walzer on the “art of separation”, Weidmann made a strong plea for the ECB to stick to its narrowly defined mandate of price stability, as it lacks the democratic legitimacy to go to areas beyond those defined by legislators. He called on Nobel laureate Jan Tinbergen to contend that the interest rate is only one specific instrument that should be used for reaching a single goal of price stability. But one must wonder if this technocratic view of central banking is not already overtaken. There is a power struggle between central bankers today on the meaning of their mandate, not on how to implement it.
The audience attacked Weidmann’s monetarist view. How can you propose to take away the zero risk of public debt now and risk getting higher spreads again? Well, was the answer, there is never an ideal time to start a change and we can have transition periods. Is deflation not the real challenge today? But, the reply came, deflation risks are related to falling energy prices and countries in the Eurozone lowering their living standards.
Friedman seemed puzzled about this unique experiment of having a common currency with no common debt. Why can Germany not support Eurobonds? Weidmann’s narrow brief as central banker did not stop him from answering that highly political question. He said yes to Eurobonds on the condition that countries transfer budgetary sovereignty to the EU, and doubted that Eurobond advocates would ever support this. He quoted French President François Hollande’s rebuttal of the European Commission’s “diktat” on the French budget.
Michael Walzer’s art of separation argues for divorcing the sphere of money from political power. Walzer also states that social justice norms are not universal, but have to be decided by each society in a way that is untainted by market power. So, who in the Eurozone today should have the political power to decide what social justice looks like?