Do people understand that the European economy is being held hostage?

Mario Draghi, president of the European Central Bank, pauses during a news conference in Frankfurt, Germany, on June 6. (Hannelore Foerster/BLOOMBERG)

To be fair to Draghi, he's not just a sadist. His view is that if the ECB steps in to save the day, the euro zone won't make the structural reforms necessary for its future. Pain and terror are leverage to force member countries to make tough decisions, like handing more authority over their budgets to Brussels, or forming a banking union. Which is why, despite the fact that Europe is in vastly worse shape than the United States and facing a looming recession, Draghi refused to cut interest rates below one percent yesterday. He wants to keep the pressure on.

There are some in our central bank who agree with this vision. Richard Fischer, the president of the Dallas Federal Reserve, argues that the Federal Reserve shouldn't be stimulating the economy and keeping interest rates so low because that takes pressure off of Congress to cut the deficit. If the Fed let interest rates rise, Fisher says, then Congress would better see the cost of its borrowing and choose to fix it.

But unlike in the European Central Bank, that kind of economic chicken is not a consensus view in the Federal Reserve. What is the consensus view is that there's not much more that the Federal Reserve can do, and if it tries to do too much, inflation expectations will rise, and that's not a risk worth bearing. Other economists disagree. Here's a primer on what the Fed could do, and here's Joe Gagnon, a former Fed official, explaining why, in his view, they're not doing it.

During a speech yesterday, Janet Yellen, the vice chairwoman of the Federal Reserve and one of its more activist members, made the case that the Fed can do more, and said that they would do more if they concluded "that the recovery is unlikely to proceed at a satisfactory pace." To which the only possible reply is, how is it possible that they have not yet concluded that the recovery is unlikely to proceed at a satisfactory pace?

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Top story: Watch the central banks

The ECB continued doing a terrible job. "The European Central Bank has signaled it could cut interest rates next month but held back from immediate fresh steps to combat the eurozone debt crisis, keeping pressure on politicians to embark on a far-reaching overhaul of Europe’s monetary union in the weeks ahead. A warning by Mario Draghi, ECB president, of 'increased downside risks' to growth, indicated that the bank’s governing council had dropped its opposition to lowering its main interest rates below 1 per cent - already a historic low. 'We are watching closely all developments and stand ready to act,' said Mr Draghi, who disclosed a 'few' on the bank’s 22-strong council had wanted to cut rates already. The change of tone reflects ECB alarm at heightened financial market tensions, which are threatening to blow a hoped-for recovery off course. The ECB president also announced the ECB would continue until at least the end of the year to meet in full banks’ demands for loans lasting up to three months." Ralph Atkins in The Financial Times.

@pdacosta: ECB: What me worry?

@grossdm: U.S. economy growing 2% with banking sector minting money. Europe in recession with banking crisis. But ECB has higher rates than Fed. Nice

@ObsoleteDogma: I don't know if I'm just off my game, but I'm not even capable of ECB snark right now. They suck.

And the Fed doesn't seem inclined to act yet. "Three members of the Federal Reserve’s policy-making committee indicated in separate speeches Wednesday that recent economic data, while troubling, does not yet justify an expansion of the Fed’s economic aid campaign...The Fed’s chairman, Ben S. Bernanke, is scheduled to testify on the state of the economy Thursday morning before a joint Congressional committee. Before his highly anticipated remarks, the Fed’s vice chairwoman, Janet L. Yellen, said Wednesday evening in Boston that the committee was prepared to act if it concluded 'that the recovery is unlikely to proceed at a satisfactory pace.' Two other members of the policy making committee also suggested Wednesday that their willingness to consider action had increased, although, like Ms. Yellen, they gave no indication that they were ready to act at the committee’s next meeting." Binyamin Appelbaum in The New York Times.

David Wessel doesn't think the Fed can do much more. "After pushing short-term interest rates near zero in late 2008, the Federal Reserve decided it could do more...More than $2 trillion later, the U.S. economy is stuck with 8.2% unemployment and a still shaky recovery. So what has been learned about the efficacy of this experiment? The answer matters not only for judging the past, but for whether the Fed can and should do more now...The bulk of the accumulating evidence suggests that the Fed's initiatives made financial conditions easier than they would otherwise be. Some Fed critics implicitly concede that, warning that the asset purchases could trigger an outburst of inflation or a bubble in farmland or another asset...So if all this worked and the only big issue was the economy's resistance, as the Fed leadership believes, then why not do more? The Fed just might. But with rates already so low and so much else going on, the added benefits of another round of more asset buying may be too small to make much difference." David Wessel in The Wall Street Journal.

But stocks soared on increased hopes of future central bank action. "Stocks soared in the United States and Europe on Wednesday amid hopes that central banks on both sides of the Atlantic Ocean will take steps to stimulate economic growth. The Dow Jones industrial average rose 286 points, or 2.37 percent, to record its best day of the year. The broader Standard & Poor’s 500-stock index was up 2.3 percent. The sharp rise on global markets was especially welcome news because they have been falling in recent weeks over fear that Europe’s financial crisis is spreading and the anemic U.S. recovery is slowing. Markets tumbled Friday after a disappointing employment report from the federal government, which showed the economy added a paltry 69,000 jobs in May. Wednesday’s rally was the product of a combination of factors, analysts said. Investors appeared to responding to a heightened willingness by the Federal Reserve and the European Central Bank to bolster growth." Amrita Jayakumar in The Washington Post.

A rescue for Spanish banks is looking increasingly likely. "The bargaining has begun over a deal to rescue Spain’s ailing banks, confronting Europe with urgent choices about whether to try to enforce onerous bailout terms on Madrid as the crisis spreads to the region’s largest economies. The question has seemingly become one of when, and not if, Spain’s banks will receive assistance from European countries, with investors on Wednesday predicting an imminent rescue and pushing up stocks and bonds on both sides of the Atlantic. Spain, the euro zone’s fourth-largest economy, is too big to fail and possibly too big to steamroll, changing the balance of power in negotiations over a bailout. Political leaders in Madrid are insisting that emergency aid to their banks avoid the stigma in capital markets that has hobbled countries like Greece, Portugal and Ireland after accepting tough rescue terms." Nicholas Kulish and Raphael Minder in The New York Times.

But Spain is downplaying the possibility of an imminent rescue. "Spain sought to dispel talk that any rescue plan for its banks is imminent, with Finance Minister Luis de Guindos saying that a review of the banking sector's needs would show problems are limited even as the European Commission said emergency policy measures may be needed to tackle problems in the country's lenders. He said an immediate rescue for Spanish banks hadn't been discussed, a comment that comes after Budget Minister Cristóbal Montoro called this week for help from 'European institutions' for Spanish banks and warned that the country was effectively losing access to the markets. Still, in a sign pressure is mounting on Spain to fix its banking problem, European Internal Markets Commissioner Michel Barnier in Brussels said that emergency policy measures may be needed to deal with Spain's banks...Mr. Barnier said the commission is trying to work on both long-term change and immediate challenges." Vanessa Mock and David Roman in The Wall Street Journal.

All eyes are still on Germany. "As Europe careens deeper into political and economic crisis, the immediate survival of the euro turns more than ever on a single question: Will Germany act? For nearly three years, Chancellor Angela Merkel has resisted pressure from European neighbors to provide a stronger financial backstop for the euro zone. Germany, the only euro-zone nation with the economic heft to do so, has done the minimum necessary to keep vulnerable countries afloat--and demanded crushing public-spending cuts in return. Now, with Greece's euro membership hanging by a thread, Spain's banking system in deep trouble and concerns about Italy mounting, the German government must decide whether saving the euro is worth putting the country's own prosperity at risk. 'Germany should reflect quickly but deeply, and act,' Italian Prime Minister Mario Monti said late last week. Few Germans, however, share that sense of urgency." Vanessa Fuhrmans and Matthew Karnitschnig in The Wall Street Journal.

TYSON: Two ways Germany could fix Europe. "With a modest fiscal deficit, record-low borrowing costs, and a huge current-account surplus, Germany has the financial firepower to unleash a significant stimulus. But Germany sees no need to stimulate its own economy, and is willing to consider only modest eurozone measures, such as additional capital for the European Investment Bank, a small pilot program for European Union “project bonds” for infrastructure investment, and more rapid deployment of unspent EU structural funds. Germany refuses even to allow spending on high-priority infrastructure projects to be exempted from the unrealistic deficit targets set by the EU’s new 'fiscal compact.' CommentsDespite pleas from the IMF and the OECD, Germany also remains implacably opposed to Eurobonds, which could ease the funding constraints of other eurozone members and bolster the resources of the European Stability Mechanism, which currently does not provide a credible firewall against a run on Spanish or Italian sovereign debt – or on the European banks that hold it. " Laura Tyson in Project Syndicate.

Banks cutting lending to cities are the latest risk to Europe. "Many municipalities can't fund their investment projects. This is no small matter because local governments in Europe carry out the majority of public infrastructure investments, from roads to sewage to hospitals, including more than 70% of those in France. So at a time when governments across Europe are searching for sources of growth and employment, localities' funding squeeze is making their job harder...Today's municipal funding squeeze stems from the financial crisis, which led European governments to adopt tougher solvency rules for banks. Implementation of these rules was accelerated late last year, as Europe's sovereign-debt problems unfolded. European local governments rely on bank borrowing for projects, unlike in America, where they often sell bonds. But European banks are drastically reducing their municipal lending as they try to meet the tightened solvency rules." Noemie Bisserbe in The Wall Street Journal.

@morningmoneyben: This is my cat Chubby's response to the euro zone crisis. And everything else.

Top op-eds

1) KLEIN: Elections don't give presidents mandates. "Forget what President Barack Obama and Mitt Romney say they want to do next year. The better question might be: How do they intend to get any of it done? To use a phrase that was popular during the Democratic primary in 2008, what’s their 'theory of change'? One common theory is that the two parties are so far apart that this election, finally, will provide a mandate for the winner and shock the losing side into cooperating...But can you remember the last time it actually worked that way? The U.S. political system makes winning an election a necessary but very insufficient qualification for governing. The frequent elections in the House and staggered elections in the Senate, the expansion of the filibuster, the influence of the Supreme Court and the polarization of the political parties combine to constrain power. You can win an election and quickly find you lack the support to pass major priorities." Ezra Klein in Bloomberg.

2) GRAMM AND HUBBARD: Romney's recovery would be stronger. "Given last week's grim jobs report, it's now clearer than ever that the November election will be a referendum on the economy. Has the president's program worked? Does Mitt Romney have a better program to promote job creation and prosperity? Fortunately, Americans have evidence that will allow them not only to judge President Obama's economic performance, but also to compare that performance with Mr. Romney's proposed alternative...In the early 1980s, President Ronald Reagan's policies were aimed not just at overcoming the 1981-82 recession, but overcoming the stagnation of the 1970s. By reducing domestic discretionary spending, setting out a three-year program to reduce tax rates, and alleviating the regulatory burden, Reagan sought to make it profitable to invest in America again. He clearly succeeded...Mr. Romney's economic principles are strikingly similar to Reagan's." Phil Gramm and Glenn Hubbard in The Wall Street Journal.

3) JOHNSTON: The tax system for the super rich needs to change. "Six American families paid no federal income taxes in 2009 while making something on the order of $200 million each. This is one of many stunning revelations in new IRS data...Congress has created two income tax systems, separate and unequal...One system is for wage earners and pensioners, whose taxes are withheld from their checks. This rigorous, efficient system taxes them fully. The other system is for business owners, executives, managers of hedge and private equity funds, name brand athletes and entertainers, and many others with huge incomes. Congress lets them put unlimited amounts of income in sheltered accounts and put off paying taxes for years or even decades...The issue we need to debate is not how much you earn -- make all you can. The issue is that everyone should pay their taxes now, not in some far-off tomorrow, and as you go up the income ladder so should your tax rate." David Cay Johnston in Reuters.

4) YESELSON: Organized labor's problem is that Americans simply don't care about it anymore. "It’s not that unions can’t win a defensive fight. Ohio proved otherwise—a resounding 23 percent rollback of an anti-collective bargaining measure for public employees similar to that enacted in Wisconsin. (Alec MacGillis has discussed some of the reasons why Ohio’s results differed from those in Wisconsin.) And it’s not as if unions don’t still have significant political strength. Barack Obama and other Democrats need the union household vote (roughly 25 percent of the electorate) to vote Democratic at its customary 60 to 65 percent in several key Midwestern states (and Nevada, too) in order to win. No, the real underlying story is that unions are losing their institutional legitimacy in modern America. The problem isn’t that most people hate unions. The problem for unions is that most people don’t care about them, or think about them, at all." Rich Yeselson in The New Republic.

5) WILL: The executive branch needs to be reined in. "The 165,000 pages of the Code of Federal Regulations contain tens of thousands of rules promulgated by largely unaccountable agencies that churn out more than a thousand new mandates a year. According to the Small Business Administration, regulations cost the economy about $1.75 trillion, almost twice the sum of income tax receipts. Davis says that small businesses are spending $10,500 per employee on regulatory compliance. The REINS Act would require Congress to vote on a resolution of approval concerning every 'major' regulation (with an economic impact of $100 million or more). There are 212 such regulations among the 4,128 currently in the pipeline from unelected executive agencies. If the vote that REINS requires did not occur within 70 days, the regulation would die...It passed the House last December. But the Democratic-controlled Senate...has no desire to restrain the administrative state or to ratify what it does by approving, with statutes, major regulations." George Will in The Washington Post.

Indie rock interlude: The Walkmen play "Juveniles" live on KEXP.

Got tips, additions, or comments? E-mail me.

Still to come: Productivity declined more than initially thought; the WH issued a veto threat on healthcare; farm bill debate starts now; the House GOP has a new energy package; and a dog wants to meet Dave Grohl.


The Fed is set to propose new capital rules for banks. "The US Federal Reserve is set to propose new capital rules on Thursday, including a provision that will reverse a policy that has helped shield US bank capital levels from volatility, people familiar with the matter said...The issue involves banks’ securities portfolios which are usually designated as 'available for sale' (AFS). US accounting rules generally require that these holdings be valued using mark-to-market accounting, although unrealised gains and losses do not affect banks’ bottom line until the securities are sold. European banks mostly use a different accounting treatment, which spares them from having to mark their positions to market. Swings in the market value of these holdings have therefore not affected banks’ regulatory capital in the US. As part of the Basel III accords, the Fed is expected to remove the exemption that spared banks from having to deduct from their capital levels unrealised losses in their AFS portfolios, people familiar with the matter said." Shahien Nasiripour and Tracy Alloway in The Financial Times.

@vgmac: Yeah, big banks don't have a lot of allies left on capital issues post #JPM loss.

Productivity declined more than thought. "The productivity of U.S. workers declined more than initially thought during the first quarter of the year, yet another sign of sputtering economic growth. Nonfarm business productivity, the output per hour of all workers, fell at a 0.9% annual rate in the first three months of 2012, a larger decline than the 0.5% drop reported last month, the Labor Department said Wednesday. Unit labor costs increased a more mild 1.3% during the period, compared to a first report of a 2.0% gain. Economists surveyed by Dow Jones Newswires had forecast the revised figures to show a 0.8% decline productivity and a 2.1% gain in unit labor costs. The drop in productivity, which was the biggest in a year, was due to people working more hours but producing less than initially thought. Hours worked increased 3.3% during January through March, versus a 3.2% gain in last month's report. The gain was the largest since the first quarter of 2006." Eric Morath and Tom Barkley in The Wall Street Journal.

The CBO is sticking up for the stimulus. "Did the stimulus work? Certainly not according to Republicans, who regularly blast President Obama’s 'failed' economic policies on the campaign trail. GOP presidential candidate Mitt Romney has called the $787 billion package of temporary tax cuts and spending hikes 'the largest one-time careless expenditure of government money in American history.' But on Wednesday, under questioning from skeptical Republicans, the director of the nonpartisan (and widely respected) Congressional Budget Office was emphatic about the value of the 2009 stimulus. And, he said, the vast majority of economists agree. In a survey conducted by the University of Chicago Booth School of Business, 80 percent of economic experts agreed that, because of the stimulus, the U.S. unemployment rate was lower at the end of 2010 than it would have been otherwise." Lori Montgomery in The Washington Post.

A new push for boosting the minimum wage is underway. "Representative Jesse L. Jackson Jr. tried to give new vitality to the issue of the federal minimum wage on Wednesday, coming at the debate with a fresh angle: that raising it might encourage Americans to spend more and, thus, help stimulate the nation’s struggling economy. At a Capitol Hill news conference, he said the economy would be bolstered by increasing 'the purchasing power of millions of low-income and low-wage workers, and one proven and effective way of doing that is to raise the federal minimum wage.' He has introduced a bill that would immediately increase the minimum wage by $2.75, to $10 an hour from $7.25...An increase in the federal minimum wage was last approved in 2007, when Congress voted to raise it from to $7.25 from $5.15 over two years. Eighteen states now have minimum wages in place that exceed the federal minimum." Rebecca Berg in The New York Times.

Short film interlude: An experimental film about the forms and shapes food makes when you flatten it.

Health Care

HHS has missed almost half of Obamacare's deadlines. "The Health and Human Services Department has missed nearly half of its legal deadlines while implementing President Obama’s healthcare law, according to an analysis by the American Action Forum. HHS has faced 42 statutory deadlines in the roughly two years since the Affordable Care Act became law -- and it missed 20 of them, according to the AAF’s count. The highest-profile item on the list of missed deadlines is the CLASS, or Community Living Assistance Services and Supports, program, which would have provided insurance for long-term care such as nursing-home stays. But HHS decided not to implement the program, saying it simply couldn’t work as it was written. Aside from CLASS, federal regulators have at least begun work on all of the provisions AAF identified. Several have been finalized, but later than the law had called for." Sam Baker in The Hill.

The White House would veto a bill to repeal the medical device excise tax. "The White House on Wednesday issued a veto threat for a healthcare bill from House Republicans that will come to the floor this week. Republicans argue that H.R. 436 -- to repeal the healthcare reform law's medical device excise tax, among other purposes -- would help lower healthcare costs. But in its veto threat, the White House said the measure 'would fund tax breaks for industry by raising taxes on middle-class and low-income families' and increase the number of uninsured Americans...In addition to repealing the device excise tax, the GOP bill would permit over-the-counter (OTC) drugs to be expensed under health savings accounts and give account holders easier access to unused balances. The version of the bill as introduced had 11 Democratic co-sponsors, out of a total of 240. The latest bill is expected to see a floor vote on Thursday or Friday, following debate." Elise Viebeck in The Hill.

Domestic Policy

The Senate starts debate on the farm bill today. "It’s as if the cows have come home. The farm bill was once regarded as one of the main legislative vehicles by which members of Congress could deliver pork-barrel spending to their constituents. It was always a bloated, contentious piece of legislation that grew larger and more expensive as it lumbered through Congress. But the farm bill that the Senate will begin debating Thursday is a considerably slimmed-down version of previous incarnations. It would slash tens of billions of dollars in direct subsidies to farmers and in the federal food stamp program. It may the be most tangible symbol yet that the age of austerity has dawned in Washington. The bill, which sets the nation’s agricultural and food policy for the next five years, enjoys rare bipartisan support and could be the only significant piece of deficit-reduction legislation to gain congressional approval this year." Ed O'Keefe in The Washington Post.

The bill's crop insurance proposal could cost the government billions. "At the same time that high crop prices are prompting farmers to expand into millions of acres of land once considered unsuitable for farming, Congress is considering expanding a federal insurance program that reimburses farmers for most losses or drops in prices. The combination could cost the government billions of dollars if the newly farmed land does not yield enough crops and especially if crop prices fall. Crop insurance has existed for decades, with the government now spending about $7 billion a year to pay about two-thirds of the cost of farmers’ premiums. Under the federal program, farmers can buy insurance that covers poor yields, declines in prices or both. On Tuesday, the Senate began debate on a farm bill, passed by the Agriculture Committee in April, that would set up another crop insurance subsidy, costing $3 billion a year, to cover any losses farmers suffer, known as deductibles, before their crop insurance policies kick in." Ron Nixon in The New York Times.

@BCAppelbaum: "In some Montana counties, once-marginal farmland is selling for nearly $2,000 an acre, up from about $300 in 1991."

An Obama administration review isn't slowing deportations. "After seven months of an ambitious review by the Obama administration of all deportations before the nation’s immigration courts, very few of them have been halted, disappointing immigrants President Obama hopes to court for his re-election bid. Under the review of more than 411,000 deportation cases, the first of its kind, fewer than 2 percent have been closed so far. The numbers fall far short of expectations raised among immigrants, including many Latinos, when top administration officials announced they would comb through backlogged court dockets to close cases where the immigrants had strong family ties to this country and no criminal records. Department of Homeland Security officials say the review has been slowed by bureaucratic delays with criminal background checks of the immigrants. They said many thousands more deportations could be suspended in coming months." Julia Preston in The New York Times.

Musical animals interlude: A dog plays the drums.


House Republicans unveiled their latest energy package. "House Republicans unveiled their latest energy package Wednesday in a bid to keep pressure on the White House over the struggling economy and gasoline prices...The Domestic Energy and Jobs Act is a package of seven existing bills aimed at speeding up and expanding onshore oil-and-gas projects and delaying certain Environmental Protection Agency rules, among other provisions. Democrats quickly dismissed the plan...The package is unlikely to gain traction in the Senate, but will provide Republicans another platform to criticize White House energy policies...The latest offensive comes as gasoline prices have been dropping, a welcome political development for the White House. Prices vary greatly by region, but the average nationwide price is $3.57 per gallon, according to AAA, down 20 cents from a month ago. Average prices neared $4 per gallon earlier in the year...A GOP aide said the package would likely come to the floor by the end of June." Ben Geman in The Hill.

@Ben_Geman: GOP Whip McCarthy, touting GOP energy bills on CNBC, on econ jolt from N. Dakota oil boom: “I paid more than $200 a night at a Best Western”

The House approved the energy and water spending bill. "The House approved a $32 billion Energy and Water spending bill that increases spending in 2013 above current levels, and includes some amendments that signal House GOP opposition to the Obama administration in several areas. Members voted 255-165 in favor of the bill, and had the support of 48 Democrats. The bill, H.R. 5325, is the second 2013 spending bill approved by the House -- it approved a Veterans Affairs bill in late May. Despite spending $87.5 million more than current year levels, the Obama administration has said it would veto the bill, since it's part of a Republican plan to spend $19 billion less in 2013 discretionary accounts than was agreed last year. The administration said last week that increases in the bill would have to be offset by unacceptable and deeper spending cuts elsewhere. As approved by the House, the bill also includes several policy riders the Obama administration might also find objectionable." Pete Kasperowicz in The Hill.

Wonkbook is compiled and produced with help from Karl Singer and Michelle Williams.