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Why The Eurozone Is Screwed: Blame The European Central Bank

by | 11th, November 2011

EVER wonder why the European economy is screwed?

No, it’s not just the euro itself, not just the insane idea that 17 different nations could all share the same currency and the same interest rate. There’s also human agency involved. A large part of it is the fault of the European Central Bank.

Here’s Milton Friedman:

But when Anna Schwartz and I examined the history of that period in detail, we found that the situation was very different. In the United States from 1929 to 1933, the quantity of money declined by a third. Similarly in Britain, it declined till 1931, when Britain went off the gold standard. In France, the reason the contraction kept on until 1936 was because France insisted on staying on the gold standard and kept the money supply declining. To go back to the United States, at all times from 1929 and 1933, the Federal Reserve had the power and ability to have prevented the decline in the quantity of money and to have increased the quantity of money at any desired rate.

So in our opinion, the Great Depression was not a sign of the failure of monetary policy or a result of the failure of the market system as was widely interpreted. It was instead a consequence of a very serious government failure, in particular a failure in the monetary authorities to do what they’d initially been set up to do.

A bit wonkish, agreed, but the basic point being made is that if the amount of money in circulation starts to fall then the economy is going to fall, contract, along with it. So the first thing you have to do as a central bank is make sure that the money supply doesn’t fall.

This doesn’t mean that a not falling money supply will solve all problems: you can still be deep in the shit with an expanding money supply. But the important bit there is “can be”. If you have a falling money supply then you are definitely deep in the doo doo. If you don’t have a falling money supply you may or may not be.

So, what has the ECB been doing? Appallingly, it raised interest rates last year (and has only just part reversed that). Rising interest rates reduce the money supply. In some southern European countries the money supply is contracting at 24%. This is near those US Depression levels. And what is the ECB doing about it? Nada: zippo, zilch.

What they need to be doing is printing more money. What we call quantitative easing or QE. And this is exactly what they flat out refuse to do. Thus the European economies are screwed: there is going to be another recession and it’s going to be a big one too.

No, not because the banks screwed up or bankers are greedy or because neo-liberalism took over the world or capitalism or even the ongoing rape of Mother Gaia. Because the bureaucrats refuse to do the right thing.

Remember this when someone says that government can fix this or that Europe can solve that problem. It’s possible that they might be able to: but what happens when government, Europe, makes the wrong decision?



Posted: 11th, November 2011 | In: Money Comment | Follow the Comments on our RSS feed: RSS 2.0 | TrackBack | Permalink