Tuesday, January 21, 2014
Three lessons for Mario Draghi
January 21, 2014
History is bound to judge harshly the European Central Bank’s recent decision to leave policy interest rates unchanged. For it did so despite the fact that European inflation is now running at less than half of the ECB’s 2 percent inflation target. The ECB also did so despite the fact that European unemployment remains at record high levels and that Europe remains in the grips of a crippling credit crunch that very much clouds its economic recovery prospects.
Among the more troubling developments in the European economy of late has been the precipitous decline in inflation. Excluding volatile items like food and energy, over the past year overall European inflation more than halved from 1.5 percent to 0.7 percent. This takes European inflation to its lowest level in the Euro’s 15 year history, which has to raise the specter that the overall European economy could succumb to deflation.
Equally troubling is the fact that the highly indebted countries in the European economic periphery, like Cyprus, Greece, Ireland, and Portugal, are now either experiencing outright deflation or else are on the cusp of deflation. For deflation will make it very difficult for these countries to dig themselves out from under their very large public and private sector debt burdens.