The ECB decided yesterday to hold back from another interest rate hike. It seems the ECB has finally figured out that the series of interest rate hikes it intended to do this year probably would have caused the Eurozone some harm. Specifically, the ECB’s proposed tightening would have required more painful deflation in the Eurozone periphery to bring about the real depreciation that part of the currency union sorely needs. That much the ECB seems to understand. What they don’t seem to understand or don’t want to understand is that the periphery’s real depreciation could also occur through higher inflation in the core. That, however, would require the ECB to ease and allow more inflation in Germany, an unlikely event.
The ECB also hasn’t seemed to figure out that being passive is effectively keeping monetary policy tight. Nominal GDP remains well below trend, the Euro is surging, and the ECB balance sheet is slowing shrinking. Michael T. Darda appropriately calls these developments the caustic concoction brewing in the Eurozone. How much longer can this go on? If only the ECB would learn the lessons of the Fed’s passive tightening in 2008.
Edwin G. Dolan is an economist and educator with a Ph.D. from Yale University. Early in his career, he was a member of the economics faculty at Dartmouth College, the University of Chicago, and George Mason University. From 1990 to 2001, he taught in Moscow, Russia, where he and his wife founded the American Institute of Business and Economics (AIBEc), an independent, not-for-profit MBA program. Since 2001, he has taught at several universities in Europe, including Central European University in Budapest, the University of Economics in Prague, and the Stockholm School of Economics in Riga, where he has an ongoing annual visiting appointment. During breaks in his teaching career, he worked in Washington, D.C. as an economist for the Antitrust Division of the Department of Justice and as a regulatory analyst for the Interstate Commerce Commission, and later served a stint in Almaty as an adviser to the National Bank of Kazakhstan. When not lecturing abroad, he makes his home in Washington's San Juan Islands.
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