ECB Worries/European Woes: The Economic Consequences of Parochial Policy

Robert J. Barbera and Gerald Holtham

Economics Working Paper Archive from Levy Economics Institute

Abstract: Financial market crises with the threat of a subsequent debt-deflation depression have occurred with increasing regularity in the United States from 1980 through the present. Almost reflexively, when confronted with such circumstances, US institutions and the policymakers that run them have responded in a fashion that has consistently thwarted debt-deflation-depression dynamics. It is true that these "remedies," as they succeeded, increasingly contributed to a moral hazard in US and global financial markets that culminated with the crisis that began in 2007. Nonetheless, the straightforward steps taken by established institutions enabled the United States to derail depression dynamics, while European 1930s-style austerity proved as ineffective as it was almost a century ago. Europe's, and specifically Germany's, steadfast refusal to embrace the US recipe has fostered mushrooming economic hardship on the continent. The situation is gruesome, and any serious student of economic history had to have known, given European policy commitments, that it was destined to turn out this way. It is easy to understand why misguided policies drove initial European responses. Economic theory has frowned on Keynes. Economic successes, especially in Germany, offered up the wrong lessons, and enduring angst about inflation was a major distraction. At the outset, the wrong medicine for the wrong disease was to be expected. What is much harder to fathom is why such a poisonous elixir continues to be proffered amid widespread evidence that the patient is dying. Deconstructing cognitive dissonance in other spheres provides an explanation. Not surprisingly, knowing what one wants to happen at home completely informs one’s claims concerning what will be good for one’s neighbors. In such a construct, the last best hope for Europe is ECB President Mario Draghi. He seems to be able to speak German and yet act European.

Keywords: Austerity; Central Banks; Economic Stability; Euro; European Central Bank; Eurozone; Eurozone Debt Crisis; Financial Crisis; Financial Instability; Financial Markets; Fiscal Policy; Government Policy and Regulation; Hyman Minsky; Sovereign Debt; Stabilization; United States (search for similar items in EconPapers)
JEL-codes: B20 B31 E62 E63 E65 F01 F36 G01 H63 (search for similar items in EconPapers)
Date: 2012-12
New Economics Papers: this item is included in nep-eec, nep-hpe, nep-mon and nep-pke
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