In Germany, criticism of the ECB’s loose monetary policy is considered good form. Mario Draghi had to put up with a lot of nasty comments during his time as central bank chief. But the Italian had a convincing argument up his sleeve. The inflation rates in the euro zone have always been very low. With the zero interest rate policy, the central bank therefore fulfilled its most important task, namely to ensure stable prices.
His successor Christine Lagarde can no longer invoke this argument so casually. Because meanwhile prices are rising in the euro zone. In August, the inflation rate was three percent, well above the self-imposed target of two percent. For Germany, the Federal Statistical Office even registered 3.9 percent in August: Housing, energy and food have become more expensive. That is politically explosive.
Households with low incomes suffer most when the goods of daily survival cost more money. At the same time, the rich in society have gotten even richer in recent years. The loose monetary policy drove house prices and share prices higher. But only people who could afford these investments benefited from this.
The ECB should actually tighten its monetary policy if prices rise. Now she has decided to reduce her monthly bond purchases a little. But that does not stop the loose monetary policy. The old conflicts from the Draghi era between “pigeons” and “hawks” are breaking out again. The former want cheap money until the end of the month. The latter want to significantly reduce aid. In this conflict of objectives, Lagarde referred to itself as an “owl” in Solomonic terms. But soon she will have to show her colors. At the outbreak of the Covid crisis in spring 2020, everyone agreed on the 1.85 trillion euro cash injection. No time for arguments. But this pact no longer holds. The national central bank governors in the Governing Council publicly express their divergent views. The argument is civil. Lagarde is a better host than Draghi was. But it now has to answer the same controversial question as its predecessor: How much normalization of monetary policy is even possible?
Stock exchanges and finance ministers are addicted to cheap money
An increase in the key interest rate to three or four percent as it used to be seems hard to imagine. The stock exchanges and finance ministers of the euro zone are too addicted to cheap money. It’s a simple calculation: when interest rates go up, the cost of new borrowing goes up. Some euro countries cannot afford that. The ECB protects the euro zone from the stock market speculators. Your purchase of government bonds guarantees low interest rates for everyone, including the financially weakest members. The effect is enormous: Greece can place ten-year bonds in the financial markets at roughly the same interest rate as Great Britain.
The stock exchanges are also afraid of a rise in interest rates, as this could trigger a quake in the bond markets. Investors have carelessly granted corporate loans in recent years, especially in the risky junk sector.
The loose monetary policy of the ECB acts like a cortisone on national budgets and financial markets. It suppresses the onset of dangerous inflammation. Draghi’s promise “Whatever it takes” is rock solid. In the past ten years, there have always been moments when the beginning of the end of loose monetary policy has been evoked. So far it has always been about talking.
The ECB is now the largest creditor in the euro countries. With the rebuilding of the economy after Corona and the ambitious investment goals in the fight against climate change, the need for money is increasing even more. Some economists say that as long as interest rates are at zero percent, high debt is not a problem. Might be. But what if they are wrong? The magic of central bank money creation seems irresistible. It’s a daring experiment. Should inflation rates rise permanently, the ECB will have to make a decision: apply the brakes or keep going at full speed? Both paths involve great dangers.