Remember Hank Paulson’s bazooka? Well, it turned out that the Paulson bazooka was more like the Bernanke/Paulson bazooka. The combination of monetary policy and fiscal policy during the credit crisis was highly effective in ending the solvency concerns that were unfolding in 2008. QE1 “worked” in that it shored up markets when it was needed. Combining this with the stimulus act was a potent mix. And though I believe they were not our best options at the time (I was in favor of a Swedish approach to the US banking system and a stimulus that was more focused on helping Main Street) they proved to stop the contagion. Europe must stop the contagion.
Although not entirely analogous to the American credit crisis (which was really a household debt crisis), the Euro crisis is similar. And I think it’s going to require an equally large bazooka. The only problem is that Jean Claude Trichet doesn’t have his Hank Paulson (no central Treasury in Europe). This recent piece in the FT laid out the problem superbly:
“Stopping Europe’s current crisis requires fundamental overhaul of the eurozone’s institutions. But the most important part of that overhaul is to ensure that the ECB takes on full responsibility as a lender of last resort in the government bond markets of the eurozone. Without this, the markets cannot be stabilised and crises will remain endemic.
At the same time, further steps towards political unification must be taken, without which control on national government deficits and debts cannot be implemented. Some steps in that direction were taken recently when the European Council strengthened control of national budgetary processes and on national macroeconomic policies. These decisions, however, are insufficient, and more fundamental changes in the governance of the eurozone are needed. These should be such that the ECB can trust that its lender of last resort responsibilities in the government bond markets will not lead to a never-ending dynamic of debt creation.”
I am still having trouble seeing a scenario in which Europe isn’t forced into greater unification, a Euro bond and a central treasury. The only question is whether they will wait for the entire union to collapse before trying to put it back together again or if they will be proactive?