Archive for the ‘Eurozone Crisis’ Category

Countering Austerity Economics

Greg Hannsgen | February 11, 2015

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As deflation sets in in the economies of Europe and Japan, Robert Kuttner’s words in Debtor’s Prison: The Politics of Austerity versus Possibility—an interesting, readable new volume—complement those of many of the Levy Institute’s scholars. The book argues that during the financial crisis and its aftermath, policymakers continually relied on excessively optimistic projections of economic growth. Hence, stimulus plans adopted by Congress were not up to the task. Meanwhile, monetary policy could do little more than keep the crisis from worsening. As a result, the recovery remained exceedingly weak, and deficits overshot estimates to boot. Kuttner notes that in spite of the end of the recession, US growth rates on the order of 1.7 percent in 2011 and 2.2 percent in 2012 have not been high enough “to blast out of the deflationary trap.”

The more recently released annual growth rate of 2.4 percent for 2014, as well as the 2.2 percent final figure for the year before, indicate that he is right when he argues against the political “consensus” that “borrowing money is the last thing the government should do.” In fact, fiscal policy still needs to be made more stimulative, perhaps through increased infrastructure spending. Kuttner decries a situation in which an “austerity lobby” is set to bat down such efforts in Washington.

Also notably, Kuttner uses a detailed historical argument to challenge the notion that fiscal austerity is the answer to foreign debt problems in highly indebted economies such as Greece. In essence, keeping economies in a debtor’s prison is not in anyone’s interest.

Kuttner’s book, published just last year, addresses many other big policy issues, including health care, all in relation to deflationary fiscal austerity and the problems and non-problems posed by high levels of different types of debt. His lucid argument brings home the sometimes counterintuitive insight from John Maynard Keynes that an increase in government borrowing is actually desirable in a world facing a huge unemployment problem. This situation, faced by policymakers, in fact differs completely from that of a household that is heavily indebted and finding itself with inadequate disposable income. “Austerity economics,” Kuttner points out, “conflates several kinds of debt, each with its own causes, consequences, and remedies. The reality is that public debt, financial industry debt, consumer debt, and debt owed to foreign creditors are entirely different creatures.”

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Needed Macro Policies: Targeted, Broad, and Universal

Greg Hannsgen | January 30, 2015

The recent 40 percent jump in the value of the Swiss Franc will have some effects similar to those of deflation where it seems to be taking hold, including Japan and much of Europe. When a currency increases in value, foreign debts in those currencies become more of a burden. The New York Times brings it home with the story of households in Poland and other European countries who have some foreign debt of their own—mortgages whose payments are suddenly much higher in their own currency, after the Swiss National Bank (the Swiss counterpart to the ECB and the Fed) stopped using foreign-currency operations to peg its currency against the Euro. In fact, the FT reports that mortgages in the Swiss currency make up 37 percent of Polish home loans. The Swiss decision was encouraged by a European Central Bank that is getting ready to push long-term interest rates down further through its own program of quantitative easing (QE). Instead of printing more Francs to buy Euro and other currency, the Swiss National Bank (SNB) allowed the Franc to rise in one big move, abandoning its peg to the depreciating Euro. This move will increase import demand in Switzerland from Poland and other European producers. But as always with a sudden devaluation, foreign-currency debtors suffer from a so-called currency mismatch problem as the amount of debt rises in terms of the things that they sell to make a living, including hours of labor.

Exchange rate pegs are difficult to maintain for an extended period, especially in relatively poor countries, as changing economic conditions cause misalignments in exchange rates. One reason not to institute a peg is the instability that can ensue when it is abandoned, and this instability can cause penury for debtors, including governments. A second bad policy is interest rates that that need to be reduced generally by the monetary policy authorities where possible. One policy approach is to target help at the debtors themselves, particularly households and countries that must be helped up to maintain autonomy. The latter include Greece, for which our Greek macro team recently suggested an interest-payment moratorium. Sometimes, a reduction in the amount owed, or principal, is in order, as it was —and probably still is—for many subprime and Alt-A (mid-range credit rating) borrowers affected by the US mortgage crisis. Eastern European countries debated converting Swiss mortgages into domestic-currency debts at a higher-than-market domestic exchange rate. A slightly less-targeted form of help is to implement jobs programs of various types and to hold the line on public-sector wages. But when unemployment and other economic indicators suggest stagnation if anything, such targeted policy stimulus helps, yet it has only an indirect impact on private investment, overall economic growth, and unmet infrastructure, poverty-reduction, and pension needs.

The ECB is smart to implement QE, given high rates of unemployment in almost every country in the Eurozone. The SNB may even be smart to allow its currency to rise, given strong economic performance. And by the same token, if the Polish government can broadly raise spending, increasing resources for budget items that encourage economic growth and inflation is under control (2 percent—one common benchmark—is rather low for a target, especially given high unemployment), it should do so. Monetary stimulus might also form part of the picture. With such a move, the government would take steps in the same direction as the ECB and the Japanese government, recognizing the threat of  debt deflation.

Generally, the a combination of the three types of policy outlined here would work effectively in many countries with high unemployment, weak growth, and large amounts of bad private-sector debt. Targeted help for borrowers can take many forms, but writing off a portion of the principal, with the central bank’s help, if necessary, is often the only way to avert widespread private-sector bankruptcies. In contrast, broad measures might include, for example, devaluations of the domestic currency, investments in infrastructure and R&D, wide-ranging open-market purchases, tax cuts, and other available measures to spur all sectors of the economy. Third, universal measures—programs available to all who meet eligibility criteria—would include Social Security and its counterparts in affected countries. (An employer-of-last resort, or ELR, program would fit within both universal and targeted categories.) It is more risky rather than less not to maintain such programs during a crisis.

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ECB: The Ultimate Enforcer of the European Neoliberal Project?

C. J. Polychroniou | January 28, 2015

If one were asked to describe the formal economic and political processes that have shaped the condition of the eurozone since the eruption of the euro crisis in late 2009 in a terse and peremptory way, he or she might boldly and truly say this: “German Chancellor Angela Merkel’s policies spearhead the unraveling of the European project while European Central Bank (ECB) President Mario Draghi seeks to keep the (neoliberal) game going.”

Indeed, there is little doubt that Germany’s neo-mercantilism is the driving force leading a sizable segment of the eurozone’s economy on the path to stagnation and decline, while the ECB has been trying hard to carry out the role of a traditional central bank by fulfilling its duty as a lender of last resort in order to save the euro and preserve the eurozone.

The ECB intervened in the euro crisis in May 2010 by buying up government bonds from Greece (even when a 110 billion euros bailout package had been approved for Greece), Spain, Portugal, and Ireland under its Securities Market Program. By 2011, the ECB was buying up Spanish and Italian bonds by the bucketload in order to force a drop in the bond yields of the two largest peripheral economies of the eurozone. With the end of the crisis in the periphery nowhere in sight, but Mario Draghi having already pledged in July 2012 to do “whatever it takes” to preserve the euro, in early September of that year the ECB introduced a new government bond purchasing program, known as the Outright Monetary Transactions (OTM) program.

Leaving aside the question as to whether or not ECB’s OTM program is legal (Advocate General Pedro Cruz Villalón opined in mid-January 2015 that while “the OTM programme is an unconventional monetary policy measure . . . it is compatible with the TFEU [Treaty on the Functioning of the European Union]”), the condition was that OTM would be attached to an appropriate European Financial Stability Facility/European Stability Mechanism (EFSF/ESM) macroeconomic adjustment program. In other words, the imposition of austerity, privatization, and market liberalization was a conditionality in the event of the implementation of the OTM program, which raises an important question: Is the ECB seeking to enforce an economic policy measure rather than just a monetary policy measure? continue reading…

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Jobs for Greeks

L. Randall Wray |

With Syriza in the driver’s seat, Greece now has some hope for the end to austerity imposed by Germany and the troika.

Here’s a good short piece in the New York Times by C. J. Polychroniou, a research associate and policy fellow at the Levy Economics Institute. As he explains, what Syriza wants is no more—and no less—radical than what the USA did in the 1930s to deal with its Great Depression: “the bulk of Syriza’s economic program for addressing the catastrophic crisis in Greece, which has evolved into a humanitarian crisis, is inspired by President Franklin D. Roosevelt’s New Deal programs.”

The official press is reacting in horror! Oh the horror of bringing Democracy and Pinko policies into the Officially Neoliberal EMU regime! C.J. continues:

“Interestingly, the task for the implementation of the employment program has been assigned to a colleague of mine at the Levy Institute, Rania Antonopoulos, who has been appointed deputy minister of Labor and Social Solidarity under a Syriza-led government.”

Yes, Senior Scholar Rania Antonopoulos is director of the Gender Equality and the Economy program at the Levy Institute, specializing in macro-micro linkages of gender and economics, international competition, and globalization; job guarantee policies and their macroeconomic and employment impacts; social protection and poverty reduction; and the implications of paid and unpaid work on poverty indicators. She was one of the founders of “Economists for Full Employment” and has been a long-time supporter of the job guarantee.

And so, two Levy scholars have moved into government this month—Rania in Greece and Stephanie Kelton in Washington. What will the world come to?

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What an Interest Payment Moratorium Could Do for Greece

Michael Stephens | January 23, 2015

After a record-setting 23 straight quarters of shrinking GDP, the Greek economy was less awful in 2014, and an economic recovery of sorts might finally be under way. However, the Levy Institute’s latest projections (which are generated using a stock-flow consistent macroeconomic model tailored to Greece) indicate that Greece still faces years of anemic growth if it continues its current policies. Given the severity of the economic wounds inflicted on that country, a recovery led by market forces alone — that is, without any fiscal stimulus — likely means another decade or more before Greece climbs back to its precrisis levels of output and employment.

In their latest report, Dimitri Papadimitriou, Michalis Nikiforos, and Gennaro Zezza observe that median income in Greece fell by 30 percent between 2010 and 2013, real GDP is now down to where it was in 2001, and the largest share of the unemployed have been out of work for a year or more. Carrying on with the status quo is no longer tenable — and looks very likely to be overturned in the next election.

Using their stock-flow model for Greece, Papadimitriou, Nikiforos, and Zezza put together projections for three alternative policy scenarios: (1) a “New Deal” program of public investment and direct job creation funded by EU transfers; (2) a suspension of interest payments on debt held by public sector institutions (debt held by the private sector would continue to be serviced), with the amount of the suspended payments redirected to targeted public investments or direct job creation; (3) a combination of (1) and (2). Here’s what those alternative policy routes would do for real GDP growth in the next few years, compared to the baseline (status quo):

Real GDP Greece_Three Scenarios

(A more detailed breakdown of the results can be found below the fold.)

As the authors point out, these ideas aren’t exactly without precedent (as the leaders of one particular country with loud objections should know very well):

These policies are not new. They are identical to those implemented in Germany after Word War II, which included a Marshall Plan loan that was never repaid, the suspension of interest payments on the country’s enormous sovereign debt, and, finally, a significant write-down of public debt.

Read the rest here: “Is Greece Heading for a Recovery?” (pdf)

continue reading…

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Now that the QE Dream Has Come True, What Next?

Jörg Bibow |

The ECB is to be congratulated on finally defying its German masters, who have long kept the euro’s guardian of stability in captivity. For a number of years, Germany’s unholy triangle of power over the land of the euro – Berlin, Frankfurt, Karlsruhe – has enforced a diktat that undermined both the euro economy and democracy, causing a deep socioeconomic crisis, the rise of nationalism, and anti-EU sentiments across the continent. At last, the ECB has liberated itself from the scourge of hyperinflation scaremongering that is the self-serving conviction – and declaration of intellectual bankruptcy – of the Germany political elite. It is fitting that the chance for a revival of democratic values and European solidarity is knocking on Athens’ door this weekend.

In the markets’ perception, Mario Draghi over-delivered yesterday on his famous “whatever-it-takes” promise made at the height of the euro crisis in the summer of 2012. The euro and bond yields are down, stocks are up, party time is here. Things are going according to plan and everyone financial is in high spirits.

The question is what Mario’s QE bazooka will really do beyond the markets – for the real economy, that is. The markets are not worried about that issue at this point. Or perhaps some are thinking ahead like this: if growth stays weak, there will be even more QE coming, so all is good in any case. In case you didn’t follow the Q&A carefully yesterday, there was another important course change – or return to hardcore German dogma – on exhibit in what Mario Draghi had to say. continue reading…

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It Seems QE Is Finally Coming to Euroland—Will It Matter at All?

Jörg Bibow | January 21, 2015

When French president François Hollande pre-announced the ECB Governing Council’s long-awaited adoption of “quantitative easing” at its meeting tomorrow, German chancellor Angela Merkel was quick to respond by pointing out that this was still the independent ECB’s decision alone. It was good of her to do so. For in recent times one could not help getting the impression that the German political elite had forgotten all about that precious centerpiece of German monetary orthodoxy: that the independence of the central bank was the most important safeguard of solidity in the world.

Against the background of an ill-informed German public and an ideology-stricken German media landscape that excels in nothing more than keeping alive hyperinflation phobia even as the land of the euro is at acute risk of sinking ever deeper into the morass of deflation, Germany’s body politic got carried away with their self-righteous assumption that it was in everyone’s best interest to accept the reality of German hegemony over Euroland in all matters of economic policy, including monetary policy. Yesterday’s Financial Times quoted the former ECB governing council member Athanasios Orphanides on what would appear to be a rather intolerable (since illegal) state of affairs: “It is as if it’s accepted that the euro area’s modus operandi is to clear things with Germany, and for the ECB to constrain its actions to what is best for Germany … This is inconsistent with and violates the [EU] treaty.”

So if the ECB finally goes ahead tomorrow with some kind of QE, ignoring German resistance, what will QE actually do for Euroland? continue reading…

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Much Excitement—and Lots of Confusion—about “Helicopter Money” of Late

Jörg Bibow | January 16, 2015

Wolfgang Münchau is one of those rare sensible voices in the international media reporting on the euro crisis. He has been consistently right in his gloomy assessments of euro crisis management in recent years. He is also correct in pointing out that the observed deflationary trend in the eurozone is not primarily due to any recent oil price shock but mainly driven by the chosen deflationary intra-area “rebalancing” path: with German wage-price inflation well below the 2-percent stability norm, everybody else is forced into deflation to restore their competitiveness. (See here: “Beware what you wish for when it comes to ECB measures”)

But Münchau got it pretty wrong in his FT column this week suggesting that so-called helicopter drops of money would constitute monetary policy. Milton Friedman famously used the helicopter analogy in pushing his monetarist mantra, but he forgot to mention that central banks are not in the business of running money-dropping helicopters. Friedman’s story went like this:

“In our hypothetical world in which paper money is the only medium of circulation, consider first a stationary situation in which the quantity of money has been constant for a long time, and so have other conditions. Individual members of the community are subject to enough uncertainty that they find cash balances useful to cope with unanticipated discrepancies between receipts and expenditures. … Under those circumstances, it is clear that the price level is determined by how much money there is—how many pieces of paper of various denominations. If the quantity of money had settled at half the assumed level, every dollar price would be halved; at double the assumed level, every price would be doubled. … Let us suppose, then, that one day a helicopter flies over our hypothetical long- stationary community and drops additional money from the sky equal to the amount already in circulation. … The money will, of course, be hastily collected by members of the community. … If everyone simply decided to hold on to the extra cash, nothing more would happen. … But people do not behave in that way. … It is easy to see what the final position will be. People‘s attempts to spend more than they receive will be frustrated, but in the process these attempts will bid up the nominal value of goods and services. The additional pieces of paper do not alter the basic conditions of the community. They make no additional productive capacity available. … Hence, the final equilibrium will be a nominal income [that has doubled] … with precisely the same flow of real goods and services as before” (Friedman 1969, p. 4).

However, as Keynes acutely observed, a central bank is a “dealer in money and debts.” A central bank issues its monetary liabilities by buying debts and/or making loans. Handing out banknotes or making transfers into deposits to the public for free constitutes not monetary policy, not even unconventional monetary policy, but plain and simple fiscal policy. And who would want unelected central bankers to be in charge of taking such a decision; even if it may well be the right one?

Of course, the eurozone fiscal authorities may in principle agree on a fiscal expansion – if they somehow manage to overcome both the legal hurdles they have set themselves and, probably more important, successfully crawl out of the intellectual hole they have dug for themselves. Similarly, under today’s outright deflationary conditions, it has, at last, become conceivable that even the ECB might embark on a “largish”-scale purchase of government debts purely with its monetary policy mandate of maintaining price stability in view; which is crucial for legal reasons, as Wednesday’s preliminary ruling by the European Court of Justice reminded us.

Fiscal expansion paired with QE may seem equivalent to a helicopter drop. But it is not. continue reading…

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Some Quick Takeaways from the ECJ Opinion of Advocate General Cruz Villalón on the ECB’s OMT

Jörg Bibow | January 14, 2015

The Advocate General (AG) has spoken on the ECB’s OMT program today. Apparently the markets were more concerned about the latest U.S. retail sales numbers than delighted about the “okay in principle provided that” signal sent from Luxembourg to the German triangle of euro power (Frankfurt, Berlin, and Karlsruhe).

First of all, in the AG’s view, OMT constitutes monetary policy but not economic policy. That was one of the critical issues. The German Constitutional Court (GCC) had preliminarily concluded that the ECB may be stepping outside the monetary policy domain, for which it enjoys exclusive competence. In its previous judgment on the Pringle case the ECJ found that the ESM constitutes economic policy, which remains primarily a national responsibility in Europe’s Economic and Monetary Union, and does not encroach on the ECB’s territory. On OMT the opposite verdict was reached, based on the following evaluation:

“in order for a measure of the ECB actually to form part of monetary policy, it must specifically serve the primary objective of maintaining price stability and it must also take the form of one of the monetary policy instruments expressly provided for in the Treaties and not be contrary to the requirement for fiscal discipline and the principle that there is no shared financial liability. If there are isolated economic-policy aspects to the measure at issue, the latter will be compatible with the ECB’s mandate only as long as it serves to ‘support’ economic policy measures and is subordinate to the ECB’s overriding objective” (AG 2015, No. 132).

In other words, the AG sides with the ECB’s argument that OMT is about “unblocking” the monetary transmission mechanism, and hence monetary policy, rather than a measure designed to facilitate the funding of certain member states, which would make it economic policy instead. OMT is judged to be an unconventional monetary policy instrument designed to meet the exceptional challenges of the day.

“Despite the efforts of the European Union (‘the Union’) and the Member States, the risk premia for bonds of various euro-area States rose sharply in the summer of 2012. In the face of investors’ doubts about the survival of monetary union, the representatives of the Union and of the States of the euro area repeatedly stressed that the single currency was irreversible. It was at that time that the President of the ECB, in words that were subsequently repeated over and over again, stated that he would, within his mandate, do whatever it took to preserve the euro” (AG 2015, No. 20).

While the objective of “preserving the euro” would seem to go well beyond the supposedly narrow monetary mandate of maintaining price stability, the ECB, in a way, merely promised to back up with money what the political leaders had declared to be their ultimate economic policy objective: the irreversibility of the common currency. This would seem to also make it an incident of ECB “support” of the union’s general economic policy: supportive words on words of support. A less generous observer might be tempted to say that failure on the part of the political authorities to establish sound institutions and policies that would foster area-wide prosperity and the sustainability of the common currency gets temporarily plastered over by the threat of meeting speculative attacks by throwing central bank money at it.

The AG has interesting things to say on market speculation. continue reading…

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How Much Should We Worry about the Fate of the ECB’s OMT?

Jörg Bibow | January 13, 2015

On Wednesday, January 14, 2015, the European Court of Justice (ECJ) Advocate General Pedro Cruz Villalon will publish his opinion on the European Central Bank’s (ECB) “Outright Monetary Transactions” (OMT) program. The Advocate General’s opinion will give us important clues and is likely going to shape the court’s later ruling on the matter. What is at issue?

The OMT program played a critical role in calming the markets since the height of the euro panic in the summer of 2012. ECB president Mario Draghi kicked off the counterattack on the markets by dropping his by now famous “whatever it takes” hint in a speech in late July in London. A few days later, on August 2, 2012, the ECB announced that “the Governing Council, within its mandate to maintain price stability over the medium term and in observance of its independence in determining monetary policy, may undertake outright open market operations of a size adequate to reach its objective.” The technical details of the OMT were then published on September 6, 2012, when the bank also terminated its earlier Securities Markets Programme (SMP) under which it had purchased fairly small quantities of government debts issued by euro crisis countries. Moreover, any purchases were sterilized to preempt “monetary financing” accusations (see here).

Rather predictably, like in the case of the earlier SMP, the OMT immediately came under sharp attack by Germany’s monetary orthodoxy. As a result, the OMT is also under review by Germany’s own Constitutional Court (GCC). In early 2014, the GCC referred the matter to the ECJ, not without publishing its own preliminary assessment though. Largely following the Bundesbank’s critical assessment of OMTs as persistently argued by its president Jens Weidmann, the GCC criticized the OMT on a number of counts, suggesting that the ECB may be overstepping its own monetary policy mandate and the OMT may also be in conflict with the “monetary financing” prohibition (TFEU Article 123).

For instance, the GCC challenges the selectivity of OMT; as a supposed monetary policy measure that would only set out to purchase the debt securities of particular members facing funding pressures. It takes issue with the conditionality of OMTs (the supported member state must be in an ESFS/ESM “stabilization” program and adhere to its rules). It is also worried about the unlimited volume of the OMT and the assumption of default risk on the part of the ECB (fearing a euro “transfer union” and risks for German taxpayers). And, given the ECB’s claims that it was fighting any irrational components in observed risk spreads, the GCC also questions whether a central bank is able to separate interest rate spreads into rational and irrational components.

The last point illustrates that the ECB made some strategic mistakes in selling OMT. In the context of the euro break-up discussions at the time, the ECB referred to irrational market bets leading to explosive risk spreads. The ECB was keen to send out the message that the euro was here to stay, as Mr. Draghi’s famous promise made clear. And that was probably an important part in making OMT work without actually having to activate it. The point is that in the context of the EU treaties, the ECB has exclusive responsibility for monetary policy with its primary price stability mandate, but not for economic policy. One can make the argument that preventing euro breakup is a precondition for maintaining price stability in the euro area. But then one could argue the same for preventing a nuclear war or climate change. Clearly the political authorities and not the ECB are ultimately in charge of keeping the euro whole. It may be laudable for the ECB to step in when the political authorities fail to live up to the task, but, strange as it may seem, it is the ECB rather than the political authorities that ends up facing legal challenges for its conduct (supposedly for overstepping its mandate when the political authorities have been failing to take the necessary steps to heal the euro all along).

Be that as it may, OMT served its purpose well, and without actually ever being activated. I called it a bluff at the time, but it turned out to be a hugely successful one. I called it a bluff, among other things, because it seemed clear to me that the “more-of-the-same” conditionality attached to OMT could only push the euro area ever deeper into the mess rather than rescue anyone, and even with more accommodative monetary policy. I turned out to be partly right and partly wrong. Certainly the state of the euro area economy today, despite years of freeloading on global growth, remains extremely fragile. But, entranced by Mr. Draghi’s promise, the markets have stayed calm all along and played along watching the euro area sink into outright deflation. So does OMT still matter today then?

First of all, and contrary to the widespread view that the ECJ won’t ever do anything that could threaten the euro or ECB, it is perfectly conceivable that the Advocate General’s opinion will be critical of certain aspects of the OMT. After all, the GCC’s reasoning followed closely an earlier ECJ ruling on a related matter, namely on the ESM (the Pringle case). In that case, the ECJ went out of its way to declare the ESM purely a matter of economic but not monetary policy. Now the issue is the opposite: is OMT purely a matter of monetary but not economic policy? The ECJ will want to make sure not to contradict itself. And that won’t be as easy as just saying that OMT is brilliant and flawless.

At this point, the OMT verdict is mostly relevant because the ECJ ruling might imply constraints for the ECB’s design of any “quantitative easing” (QE) strategy, the option of purchasing government bonds in particular. For sure, QE is not OMT. The ECB intends to buy the debts of all member states rather than of a few. As usual, there will be minimum quality standards (credit rating) of what the ECB is willing to buy, which may be an issue in the case of Greece. But there will be no explicit conditionality of the kind featured in the OMT. And with EONIA at zero (or even slightly negative) and the euro area as a whole officially in a state of deflation today, there is no longer any difficulty justifying QE as nothing else but a monetary policy measure designed to meet the ECB’s price stability mandate (on which it currently fails conspicuously). With QE now conventionally accepted as the unconventional monetary policy tool of last resort, the monetary financing issue can also be put to rest more easily. It is noteworthy that the ECB stopped sterilizing its purchases under the SMP in the summer of last year, even before officially embarking on QE …

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