Will the ECB Soon Fire Up the Printing Presses?

By: Frank_Hollenbeck

There is growing anticipation that the European Central Bank will pull the QE (quantitative easing) trigger at its upcoming meeting on January 22nd. Never mind that such an action explicitly violates article 104 of the Maastricht treaty (article 123 of the Treaty for the Functioning of the European Union):

“Overdraft facilities or any other type of credit facility with the ECB or with the central banks of the Member States (hereinafter referred to as ‘national central banks’) in favour of Community institutions or bodies, central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the ECB or national central banks of debt instruments.”

Some would say this still allows the ECB to purchase sovereign debt on the secondary market.  This was clarified in 1993 by a council resolution (number 3603) and in a 2010 convergence report adding clarification to the resolution:

  “the prohibition includes any financing of the public sector’s obligations vis-à-vis third parties.”

This makes it crystal clear that any QE to purchase government bonds, direct or indirect, violates EU rules.

The ECB claims, on the contrary, that  intent matters. In a legal opinion dated March 2010 on independence, confidentiality, and the prohibition of monetary financing (CON/2010/25), the ECB indicated, “The prohibition of monetary financing prohibits the direct purchase of public sector debt, but such purchases in the secondary market are allowed, in principle, as long as such secondary market purchases are not used to circumvent the objective of Article 123 of the Treaty.”

In other words, purchases  of government bonds is OK if the objective is price stability but not OK if it is to finance government spending. In other words, although eating a donut would violate my diet pledge, it is OK if the purpose of eating the donut was to please grandma. Everything is OK, as long as you find a good made up reason or intent!  This is just another example of the rule-maker constantly violating its own rules.

The 2% inflation target is a made up excuse.  The ECB claims it needs to print money because lower oil prices could and, previously, a stronger euro cause an imperfect CPI measure to temporarily drop below zero – as though calamity would strike Europe if this imperfect index was to register a negative number. It’s like having your supermarket run a 50% off sale on steak one weekend, and having the ECB try to make all other prices in the supermarket go up so your total bill at the cash register stays the same.

The drop in oil prices is creating a change in relative prices that are part and parcel of a capitalist economy.  Such changes are critical to guide resources and production in the direction of where they are most needed.  They occur constantly and are not to be feared, but embraced as a necessary adjustment to guide limited resources to produce output that best meets society’s demand. A central bank interfering with the measuring stick to alter absolute and relative prices to reach some non-meaningful target shows how far economics has gone in becoming nonsensical. By targeting an aggregate number, central banks distort individual prices and interfere with the efficient allocation of resources and goods and services. Money is a measure of exchange value as the ruler is a measure of length. Changing the length of a ruler, or constantly manipulating the money supply, can only create uncertainty and chaos.

The 2% inflation was never meant to be a target, but a ceiling. The problem has never been too little printing but too much printing. Deflation has never been a real problem (see here, here and here) but bouts of inflation have regularly led to chaos and social upheaval.

The reality is that deflation is being used as an excuse for the ECB to bail out spendthrift governments to save itself for the executioner’s ax.  It recognizes that a break- up of the euro is a forgone conclusion if current trends continue. What exactly is the purpose of this threatened quantitative easing? It can’t be to spur investment or consumption spending by lowering interest rates.  Such rates are already close to zero. Is it to spur inflation to lower real wages(Philips curve)? Probably not since this would go against the ECB’s primary inflation mandate. The only other possible reason is to make rich bankers richer at the expense of the middle class and the poor, so that the bankers’ extravagant lifestyles trickle down benefits to the rest of the economy.  Is this really serious economics?

According to the original quantity theory of money, the money supply is related to prices of all transactions. Money is related to the prices of anything money can buy, stocks, bonds, real estate, paintings, rice, etc. Printing money affects all these prices in different degrees.  B y targeting an imperfect CPI index, the central bank is looking at a healthy set of trees while the rest of the forest is diseased around it. The same is true if the central bank was targeting nominal GDP. The equation of exchange and the Cambridge equation are both fundamentally flawed concepts(see here). Yet economists use these equations to formulate monetary policy. The original quantity theory of money is a tautology. The other two are just hypotheses.

The best monetary policy is no monetary policy. Every euro the ECB prints is a tax on cash balance. A tax no one has voted for. The central bank has been responsible for crisis after crisis. It has totally failed in its primary objective to counterbalance the negative effect of fractional reserve banking. It has clearly made things much worse. If you had someone who constantly screwed up at his job, costing the company millions, wouldn’t you fire him?  When will we kill the beast, before it kills us?

We may already be too late.

Frank Hollenbeck, PhD, teaches at the International University of Geneva. See Frank Hollenbeck's article archives.

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