On Monday, May 10, eurozone officials presented a stimulus plan involving
$1 trillion. The main reason for the package, as stated by officials, is to
prevent European economies from falling into an economic black hole on
account of the economic crisis in Greece.
Another factor that prompted the European leaders to come up with the
massive stimulus package is the desire to arrest the slide of the euro. After
climbing to $1.51 in November 2009 the price of the euro in US dollar terms
plunged to around $1.26 in early May — a fall of 16%.
There is a concern that an uncontrolled fall in the euro could accelerate
the rate of increase in price inflation. Note that after falling to −0.3% in
September last year, the yearly rate of growth of the consumer price index
(CPI) jumped to 1.5% in April.
The stated intent of eurozone leaders to defend the euro at any price
seems to be contradictory given that the European Central Bank (ECB) on May
10 started pumping money into the economy by buying government bonds on the
secondary market. Observe that the growth momentum of the ECB balance sheet
has been trending up since January this year. The yearly rate of growth
climbed from −6.8% in January to 11.5% in the first week of May.
Eurozone policy makers were quick to suggest that the ECB monetary pumping
via the purchase of government bonds of weak economies such as Greece,
Portugal, and Spain is meant to stabilize financial markets.
What they mean by stabilizing the markets is to suppress the widening of
the yield spread of the Greek, Spanish, and Portuguese government debt
against the German government debt. For instance, in April the spread on the
10-year Greek government bond stood at 6.2% against 3.7% in January while the
Portuguese spread stood at 2.4% against 1.2% in January.
Trying to suppress the symptoms without addressing the causes behind the
widening in the spread can only make things much worse. Clearly, investors
are now assigning a much greater risk to Greek versus German government bonds
given the fact that the Greek economy is in much worse shape.
Eurozone policy makers have also suggested that this pumping is not
inflationary because it will be neutralized by an appropriate monetary policy
of the ECB — the monetary pumping by the ECB is not going to lift the
money-supply rate of growth, it is held.
Irrespective of these statements, what matters is what the ECB balance
sheet is doing — as we have seen, it has been on a rising growth path since
January this year.
Some other experts are of the view that the role of the central bank is to
accommodate the demand for money. In this sense an increase in the supply of
money in response to the increase in the demand for money is not
inflationary, so it is held.
Given the widening yield spread, clearly — it is held — we have a strong
increase in the demand for money. Failing to accommodate this demand, it is
argued, can seriously damage the monetary system.
Regardless of demand, any monetary pumping sooner or later will lead to an
exchange of nothing for something, which will weaken the
real-wealth-generation process.
Now, can the $1-trillion package fix the underlying problems of Greece and
other eurozone economies? I.e., can it improve the ability of some European
governments to service their debt?
This ability is dependent on the wealth-generating process of the private
sector of the economy and not a reshuffling of nominal debt ratios. The
stimulus package, which really amounts to income redistribution, will only
weaken further the wealth-generating process.
Another important factor that undermines this process is the reckless
monetary policy of the ECB.
What we currently observe in Greece and other European economies is an
economic bust brought about by a visible decline in the growth momentum of
the money supply.
After rising to 20.8% in August last year, the yearly rate of growth of
Greece's AMS fell to 0.2% by April this year.[1]
The yearly rate of growth of the eurozone's AMS fell from 15.8% in August
last year to 10% by April.
The sharp fall in the money-supply rate of growth is currently putting
pressure on various nonproductive — i.e., bubble — activities that emerged on
the back of the previous strong increase in money-supply rate of growth.
Note that increases in the growth momentum of money out of "thin
air" divert real savings to bubble activities. A fall in the growth
momentum weakens the diversion and thus weakens bubble activities.
While a fall in the growth momentum of money is good news for the
wealth-generating process, ever-growing government activities have continued
to undermine this process.
In 2009, Greek government outlays rose by 104% from 1999. Also in Spain,
government outlays have continued to push ahead, rising by 119% in 2009 from
1999, while in Ireland the rate of increase stood at 157%.
The relentless increases in government outlays implies a persistent
diversion of real savings from wealth-generating activities to nonproductive
activities, i.e., consumption of real capital. Obviously, this undermines the
process of real-wealth generation.
So, rather than curtailing government outlays and eliminating various
nonproductive activities, the rescue package coupled with a loose ECB is
actually going to further reinforce nonproductive activities. Obviously, this
cannot be good news for the eurozone.
Conclusion
On Monday, May 10, eurozone officials presented a $1-trillion stimulus
plan to prevent the eurozone economies falling into an economic black hole.
To reinforce the plan, the European Central Bank (ECB) was forced by eurozone
officials to step in with monetary pumping to provide a quick fix to
financial markets. Such policies can only make things much worse — it is not
possible to create something by printing money and redistributing real
wealth. All that such policies produce is a further economic impoverishment.
