17 September 2019

Financial Times: Eurozone wakes up to ECB’s fiscal message as economy weakens

[...]Even in Germany “the debate has shifted a bit”, according to Isabel Schnabel, an economics professor and member of the German Council of Economic Experts. “There are more and more people saying that monetary policy cannot be the only game in town, and if you don’t want more and more monetary policy the only instrument that is left is fiscal policy.”

The European Central Bank has become more forthright in telling governments to get on with fiscal expansion. Last Thursday, in addition to announcing new monetary stimulus, the central bank substantially strengthened its call on governments to boost aggregate demand.

ECB president Mario Draghi said countries with room to loosen their budgets should “act in an effective and timely manner”. He added that every country should try to let automatic stabilisers — tax and spending patterns that cause deficits to move countercyclically — “operate freely”.

He repeated these calls forcefully to a meeting of European finance ministers in Helsinki the next day.

One central bank governor said the change in language moved the ECB collective position closer to Mr Draghi’s defence of an explicit euro-level fiscal stance at Jackson Hole in 2014. It is striking that this is less divisive than the decision to restart central bank bond purchases: Mr Draghi said there was “unanimous consensus [that] fiscal policy should become the main instrument” to stimulate demand. [...]

The stronger ECB language “is very important”, said Ms Schnabel. “Critics of monetary policy have to make up their mind.”

There is also a renewed debate on the EU’s fiscal rules, which the Finnish government put on the agenda at the Helsinki ministers’ meeting. The fact that the fiercely disciplinarian Finns chose to bring up the topic at all was a sign of changing times, one participant reflected.

The meeting also received reform recommendations from the European Fiscal Board. Its report shows that under current rules, fiscal policy has done little to smooth business cycles. They have also failed to protect public investment in downturns, holding back recoveries and subsequent growth potential. [...]

What could turn that contemplation into action? One thing would be for central bankers who disagree with Mr Draghi on monetary policy at least to amplify his message on fiscal policy. “If the Bundesbank says we need to do more and we need to do it now, then Germany may become more active,” says Ms Schnabel.

Another would be if the economy worsened further. Ms Mateos y Lago said the lack of trust between countries meant “it’s too soon to tell how far the traditional red lines will move [and] how big a shift we will see absent a recession”. One might think forestalling recessions would be finance ministers’ top priority. It may take one to make them agree.

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