Liveblogging World War II: May 1, 1943
The First Web Page

Ryan Avent: The Frankfurt Veto

Ryan Avent:

The euro crisis: The Frankfurt veto: AUSTERITY has been under fire from all corners, lately: from IMF reports showing painfully high multipliers on fiscal cuts, to challenges to the Reinhart-Rogoff debt-threshold research, to the European Commission, whose president, Jose Manuel Barroso, noted this week that austerity in Europea has "reached its limits". Even the data itself appears to be rebelling. Eurostat released updated figures this week on euro-area fiscal statistics, which show remarkably little progress toward fiscal goals; Germany was the only European Union economy to run a fiscal surplus in 2012. But despite this, yields on peripheral sovereign debt continued their long march down. Soaring borrowing costs apparently weren't about indebtedness at all, but about uncertainty over the European Central Bank's willingness to act as lender of last resort.

That, of course, means that any pivot away from fiscal consolidation in the euro area will require approval from Frankfurt… the European Central Bank… has the most influence over government borrowing costs and which has so far used that influence to extract a pound of austerity flesh from the struggling periphery. So, what do you say, ECB?

ECB policymakers rebuffed suggestions that Europe should ease up on austerity and said that while the central bank has room to cut interest rates, such a move would not necessarily help the economy much…. This is especially disappointing given a dynamic pointed out on Twitter by Christian Odendahl, an economist at Roubini Global Economics. Mr Odendahl notes that in an ideal world the ECB would be easing much more, and that maintaining austerity might make sense if it allowed the ECB to feel comfortable using unconventional policy. But he points out an important caveat. The ECB cannot easily target easing at the periphery. Rate spreads over bunds across the periphery are large and prevent the effective transmission of stimulus from the ECB's low (but not low enough) policy rate. The ECB could announce an asset purchase plan specifically targeted at peripheral assets, but it is very difficult to imagine it doing so for any reason other than to prevent an immediate break-up.

That inability to target monetary policy suggests that fiscal multipliers have been and will continue to be high around the periphery. And that, in turn, means that reining in fiscal consolidation efforts could provide a big output boost: potentially large enough to make the fiscal impact a wash.

But it can't work without the ECB's consent. And there is no sign of any reconsideration of past policy choices in Frankfurt.