Europe is stuck in a depression worse than the 1930s, and the ECB has finally noticed.
It's about time. Eurozone inflation has fallen to just 0.4 percent, which makes it harder for the crisis countries to regain competitiveness, and real debt burdens higher than they would otherwise be. This, as Japan can tell you, is how a lost decade (or two) begins. The ECB has belatedly responded by introducing negative interest rates, offering banks even more cheap loans, and promising to buy asset-based securities—a kind of QE-lite. It's a good start, but only that. Indeed, the new funding-for-lending scheme's lower-than-expected uptake is a reminder that—at least as long as 3 percent inflation is verboten—it's not so easy for central banks to gain traction when interest rates are zero.
It's Keynes' world, in other words, and we're just living in it. That's why, after years of preaching fiscal rectitude, the ECB is now speaking out against austerity, and even, in some cases, in favor of further investment. (Just don't call it stimulus.) Here's what the ECB's Benoît Cœuré and his former colleague Jörg Asmussen said about it last week:
Germany can use some of its budgetary room of manoeuvre to support investment and reduce tax wedges, while preserving its sound fiscal position. In doing so, it would tackle some its own future economic challenges.
Countries without margins of manoeuvre should not undo the progress made on fiscal consolidation. How can we rebuild mutual trust if we renege on our commitments? Thus, countries lacking fiscal space should instead aim to achieve a more growth-friendly mix of fiscal policies by simultaneously cutting unproductive spending and distortionary taxes.
Translation: countries that can afford stimulus should do it, and countries that can't should at least cut taxes as much as they cut spending to stop any more tightening.
It's remarkable that the same ECB that has been Europe's budget enforcer, basically kicking then-Italian Prime Minister Silvio Berlusconi out of office for not being committed enough to austerity, is now calling for more spending to fight their slump. And it's even more remarkable that a German—Asmussen—is joining this Keynesian chorus.
Berlin, of course, was not pleased. It insists that it invests "significantly," and that these attacks are "unfounded." It wasn't much different from what it said last year when the U.S. Treasury criticized excess German saving—some 7 percent of their GDP—for sapping demand from the rest of the world. But, as Cœuré and Asmussen point out, it's not about Germany doing what's best for everyone else. It's about Germany doing what's best for itself. And, on that score, it's failing.
Take a look at the chart below from Christian Odendahl, the chief economist at the Center for European Reform. Once you account for depreciation, Germany's public investment on construction and equipment has actually been negative the past decade. It spends substantially less than other countries on education, too.
This is fiscal insanity. Germany has plenty of worthwhile projects to spend money on after systematically underinvesting in its people and infrastructure for 20 years. And, even before inflation, it can borrow for less than nothing. That's because, as crazy as it sounds, investors are actually paying Germany to borrow over two years. But out of some misplaced sense of fiscal self-righteousness, it refuses to do what will help itself grow and save money over the long-term: namely, borrow in the short-term.
It's letting your nose fall off to spite your face, just because you made a rule against catching it. Even the ECB thinks that's absurd.