Negative Rates a Desperate Move

Sweden has joined the club of runaway monetary policy. From Reuters:

Sweden shocked markets on Thursday by introducing negative interest rates, launching bond purchases and saying it could take further steps to battle falling prices. The central bank joins a list of those including the European Central Bank, the U.S. Federal Reserve and the Bank of England, to resort to unconventional monetary policy steps to confront an unusual combination of economic problems.

No. The Federal Reserve has reversed course. And together with The Bank of England the Fed has been helped by the fact that it is operating in an economy with moderate taxes and relatively relaxed fiscal policy. The ECB has opened the monetary flood gates in an economy that is plagued by statist austerity and more or less zero growth.

In fact, the slight uptick in economic activity in the third quarter of 2014 that I reported on earlier this week is closely correlated to the all-out liquidity bombardment that the ECB began early summer last year. On the margin there are those who will take advantage of declining interest rates. According to data from the ECB, euro-denominated loans to non-financial corporations declined noticeably in 2014. In the group of loans with a 5-10 year rate fixation, the interest on loans above 1 million euros fell by more than one percentage point, from 2.9 percent to 1.73 percent. Other collateral loan categories saw smaller declines, but the downward trend is unmistakable.

It is likely that the same thing will happen in Sweden; the question is what effect lower interest rates will have on economic activity. In the EU, gross fixed capital formation – a.k.a., business investments – did actually increase in 2014. However, broken down by quarter, the annual growth rate (i.e., over the same quarter the previous year) looks much different:

  • Q1 2014 up 3.78 percent;
  • Q2 2014 up 2.35 percent;
  • Q3 2014 up 1.86 percent.

In other words, the largest annual increase was recorded before the ECB declared a negative interest rate. It remains to be seen what happened in the fourth quarter, but even if there was an increase somewhere in the same territory as earlier in 2014, the big question is what the lasting impact is going to be on GDP growth and employment. One indicator of this is private consumption, which seems to have benefited a bit more from the ECB’s desperate interest rate cuts. Again measured as annual increases by quarter:

  • Q1 2014 up 0.68 percent;
  • Q2 2014 up 1.27 percent;
  • Q3 2014 up 1.4 percent.

For the two years Q3 2012 to Q3 2014 the annual increase was, on average, 0.3 percent. Nothing to be jubilant about, but the modestly accelerating trend during 2014 indicates a stabilization (rather than some sort of genuine recovery).

What does this mean for Sweden? The problem with that particular country is that its private-consumption increase is inflated by recklessly high household debt levels. These levels, in turn, are held up by mortgage loans with absolutely irresponsible terms, such as interest-only payments or basically life-long maturity periods. As I explained in my book Industrial Poverty, if Swedish household debt had remained a constant share of disposable income from 2000 and on, its private-consumption growth rate would almost have stalled.

Put bluntly: Sweden appears to be in reasonable economic shape only because households have increased their debt as share of disposable income from 90 percent 15 years ago to 180 percent today.

What this means is, plain and simple, that it is exceptionally irresponsible to make more credit available at even lower costs. But it also means that on the margin, the Swedish Riksbank will get less new economic activity out of every negative interest point than the ECB gets; the higher the household debt, the less inclined banks are to let people pile on new debt.

Unfortunately, the Riksbank president, Mr. Stefan Ingves, does not see this problem. Reuters again:

“Should this not be enough, we want to be very clear that we are ready to do more,” said Central bank governor Stefan Ingves. “If more is needed, we are ready to make monetary policy even more expansionary.” The central bank said this would mean further repo-rate cuts, pushing out future rate hikes and increasing the purchases of government bonds or loans to companies via banks.

As the Reuters story also explains, the Riksbank is ready to move into debt monetization – unthinkable only a year ago:

The Riksbank said it would “soon” make purchases of nominal government bonds with maturities from 1 year up to around 5 years for a sum of 10 billion Swedish crowns ($1.17 billion). But with the ECB printing 60 billion euros a month in new money the Riksbank’s much more limited program may have little effect on bond yields – already at record lows. “In terms of GDP, the mini-QE program amounts to about 0.25 percent,” banking group Morgan Stanley said in a note. “Therefore, this measure should be seen more as a signal that the Riksbank is ready to do more and remain dovish for the foreseeable time.”

In other words, here again the marginal payoff is going to be small. The only exception would be if the Swedish government decides to throw out  its balanced-budget rules and start a major spending drive funded by the Riksbank. This seems unthinkable today – just like negative interest rates and a QE program seemed unthinkable a year ago.

Quantitative Easing is not a recession remedy. It is a defensive monetary strategy. So is the negative interest rate. Together, these two measures declare that a government and its central bank has reached the end of the road in trying to get their economy moving again. The big problem for Europe, Sweden included, is that they have come to this point almost seven years after the Great Recession started. With a recovery being half-a-decade overdue, with tapped-out monetary policy and fiscal policies restrained by ill-designed balanced-budget measures, Europe is firmly planted on the road straight into industrial poverty.

Sweden, with its imbalanced real estate market and very deeply indebted households, is on the same road, only with a more volatile ride.

European Debt Stabilizing

With third-quarter GDP data available we can now get an updated view of the government debt situation across the economically stagnant European Union.

For the first time in years there is actually a little bit of good news on the horizon. But before we get there, let us look at member-state debt ratios as of third quarter last year:

Third quarter 2014
Greece 176.0% Malta 71.9%
Italy 131.8% Netherlands 69.0%
Portugal 131.4% Finland 58.1%
Ireland 114.8% Slovakia 55.4%
Belgium 108.0% Poland 48.6%
Cyprus 104.7% Denmark 47.1%
Spain 96.8% Czech Rep. 43.4%
France 95.3% Latvia 40.4%
U.K. 92.6% Romania 38.4%
Austria 80.7% Sweden 38.4%
Hungary 79.1% Lithuania 38.3%
Slovenia 78.1% Bulgaria 23.6%
Croatia 77.8% Luxembourg 22.9%
Germany 74.8% Estonia 10.5%

Debt ratios appear to be plateauing. From the third quarter of 2012 to Q3 2013, seven member states decreased their debt ratios; from Q3 2013 to Q3 2014 eight countries experienced a decline. The following table reports changes in percentage points; for example, in Austria the debt ratio increased from 82.4 percent in Q3 2012 to 84.1 percent in Q3 2013 – a difference of 1.7 percent:

Debt ratio changes, third quarters
12 to 13 13 to 14
Austria 1.7% -3.4%
Belgium 2.0% 0.1%
Bulgaria -1.0% 6.6%
Croatia 6.6% 7.7%
Cyprus 22.5% 4.7%
Czech Rep. -2.5% -1.5%
Denmark -0.2% 0.2%
Estonia 0.6% 0.4%
Finland 3.1% 4.1%
France 3.1% 3.4%
Germany -2.2% -2.1%
Greece 18.6% 5.0%
Hungary -3.3% 2.0%
Ireland 0.7% -9.4%
Italy 5.5% 4.0%
Latvia -2.0% 2.1%
Lithuania -0.6% -0.8%
Luxembourg 6.2% -5.0%
Malta 3.6% -0.6%
Netherlands 3.7% 0.3%
Poland -0.6% -7.3%
Portugal 5.7% 3.6%
Romania 3.2% 0.2%
Slovakia 5.1% -1.1%
Slovenia 13.7% 16.8%
Spain 14.1% 5.0%
Sweden 1.2% 0.8%
U.K. 0.3% 5.5%

For the EU-28 as a whole the debt ratio has increased from 83.4 percent in 2012 to 86.6 percent in 2014. Euro-18 has seen a similar upward trend.

However, if we review the data on a quarter-to-quarter basis, things look a bit more optimistic. For the EU-28 there is a small decrease, from 87 percent in Q2 2014 to 86.6 percent in Q3 2014. The same marginal decline is visible in 18 member states. In eleven of them the decline is only marginal, i.e., less than one percentage point, an fact that is important to keep in mind.

That said, it would make sense that the debt ratio is stabilizing across Europe. The statist austerity measures applied in several countries the past 2-4 years have cut spending and increased taxes – not to reduce the size of government, but to make the welfare state more affordable in a new era of economic stagnation. Those measures have now re-aligned the welfare state with a smaller, non-growing GDP.

Greece appears to have achieved this alignment. Their debt ratio fell, quarter to quarter, for the first time since before the Great Recession:

Greece France Spain Debt Ratios

It is far too early to actually conclude that the debt ratios have stabilized. However, this first indication, embedded in third-quarter data, is encouraging in the sense that the crisis is over and an era of less-worse stagnation has begun.

What these numbers do not show, though, is any sign of a turnaround in the European economy. Less inflation, GDP growth remains in one-percent territory, which is actually worse than in 2011.

Lacking the economic and political willpower to recover, Europe has opted for the second-best alternative: economic stagnation and industrial poverty.

Greece Closer to Euro Exit

There have been many attempts at predicting which way Greece is going to go under the new socialist government. Most of the voices heard thus far seem to agree that Prime Minister Tsipras will not seek a confrontational course against the EU. That is, however, a mistake. This is a man who considers now-defunct Venezuelan president Hugo Chavez a political hero. Tsipras is also a former communist (though being a former communist and at the same time a fan of now-defunct Hugo Chavez is a matter of political semantics) whose training in politics and – to the extent it exists – in economics is fully governed by those ideological roots.

It is only logical that he continues to raise the volume vs. Brussels. Alas, from Euractiv:

Greek Prime Minister Alexis Tsipras laid out plans on Sunday (8 February) to dismantle Greece’s “cruel” austerity programme, ruling out any extension of its international bailout and setting himself on a collision course with his European partners at a summit in Brussels later this week. In his first major speech to parliament since storming to power last month, Tsipras rattled off a list of moves to reverse reforms imposed by European and International Monetary Fund lenders; from reinstating pension bonuses and cancelling a property tax to ending mass layoffs and raising the mininum wage back to pre-crisis levels.

There are two reasons to take this man seriously. The first has to do with his admiration of now-defunct Hugo Chavez. Fans of so called Bolivarian socialism – the ideological niche Chavez carved out for himself and his project to destroy Venezuela – truly believe in the idea of socialism in one country. They are not ideologically or intellectually opposed to “going at it alone”: on the contrary, it would be entirely in line with their thinking to try to repeat in Greece what now-defunct Hugo Chavez did in Venezuela. This means, as I have explained several times before, that Tsipras and his party, Syriza, would be more than happy to try to turn Greece into a European Venezuela.

In addition to terrible economic consequences, this would mean cutting some key economic and political ties between Greece and the EU. A termination of EU-imposed austerity and a reintroduction of the drachma are high on that list.

The second reason to take Tsipras seriously will be revealed in just a moment. First, back to Euractiv:

Showing little intent to heed warnings from EU partners to stick to commitments in the €240 billion bailout, Tsipras said he intended to fully respect campaign pledges to heal the “wounds” of the austerity that was a condition of the money. Greece would achieve balanced budgets but would no longer produce unrealistic primary budget surpluses, he said, a reference to requirements to be in the black excluding debt repayments. “The bailout failed,” the 40-year-old leader told parliament to applause. “We want to make clear in every direction what we are not negotiating. We are not negotiating our national sovereignty.” In a symbolic move that appeared to take direct aim at Greece’s biggest creditor, Tsipras finished off his speech with a pledge to seek World War II reparations from Germany.

In effect, that means writing off German loans. But wait – there is more. Let’s continue with the Euractiv article and listen to the political arrogance of Prime Minister Tsipras:

Tsipras ruled out an extending the bailout beyond 28 February when it is due to end. But he said he believed a deal with European partners could be struck on a so-called “bridge” agreement within the next 15 days to keep Greece afloat. “The new government is not justified in asking for an extension,” he said. “Because it cannot ask for an extension of mistakes.” Athens – which is shut out of bond markets and will struggle to finance itself without more aid quickly – plans to service its debt, Tsipras said. “The Greek people gave a strong and clear mandate to immediately end austerity and change policies,” he said. “Therefore the bailout was first cancelled by its very own failure and its destructive results.”

This is quite a high-pitch rhetoric to come from a man whose country cannot function without foreign aid. But herein lies the second reason why it is important to take Tsipras seriously and assume that he means every word he says. From EU Business:

A Greek exit from the euro would see the euro collapse like a house of cards, Finance Minister Yanis Varoufakis warned in comments that triggered a spat with Italy. “Greece’s exit from the euro is not something that is part of our plans, simply because we believe it is like building a house of cards. If you take out the Greek card, the others will collapse,” Varoufakis said in an interview with Italian public broadcaster RAI that was aired on Sunday.

Here is the strategy behind the Greek finance minister’s rant. As PM Tsipras tells the EU, the ECB and the IMF that austerity is over, he flags up that Greece will now begin its long walk out on the left flank. he is now at a point where he can start implementing his long-held dream of a communist, or at least Bolivarian socialist, paradise in Greece. The EU-ECB-IMF troika has very limited resources to put up against the Greeks unilaterally ending austerity – their most formidable weapon would be to kick Greece out of the euro.

Theoretically, the Greek government would not mind that, but they want it to happen on their terms. They want to tell Europe that “you can’t kick us out, because we quit”. That is a risky strategy – they can only push Brussels and Berlin that far – so to increase the likelihood that Greece holds the aces here, finance minister Varoufakis reminds the European leadership what chaos would erupt if they kicked Greece out.

This is a very high-stakes game, for both parties. The first skirmish will be over Greece’s participation in the currency union, with my bets being on Tsipras unilaterally pulling Greece out. That may make him look strong, but in the end Greece will lose. It is their economy and their people who will be subjected to a European version of the Bolivarian socialist paradise that now-defunct Hugo Chavez created.

A Bold Tax Reform Idea

My good friend Michael Tanner, senior fellow at the Cato Institute, has often spoken well of tax and spending reforms in the Baltic states. While we are in some disagreement on the extent to which these reforms have paid off, Tanner is absolutely right in that Estonia, Latvia and Lithuania have shown comparatively strong fortitude in parting with the straight-line statism that holds so much of the rest of Europe in its grip. And he definitely makes a good point in that those countries are good examples for the rest of Europe to follow.

Today, Estonia makes yet another contribution to the debate over what direction Europe should take. In an opinion piece for the EU Observer, the small, proud Baltic nation’s former Prime Minister and former Vice President of the European Commission, Siim Kallas outlines his case against the European corporate income tax:

The European Central Bank (ECB) recently announced it would buy various securities in order to inject more than €1 trillion into the European economy. This move was long expected to counter exceedingly low consumer prices and the euro’s high exchange rate vis-a-vis the currencies of our main trade partners. The European Commission is also developing a €315 billion investment package in the European transport, IT, and energy infrastructure sectors. Both moves can help restore growth in the European economy. But what about structural reforms?

Mr. Kallas is on to something here. Europe’s problems are structural and require far-reaching reforms to so called economic institutions: permanent government spending programs; taxes; regulations that otherwise govern economic behavior. While his interest in institutional – structural – reform is limited to the tax system, it is nevertheless encouraging to see an emerging debate over any part of the European economic structure. It raises the level of attention from the immediate political attention span toward the horizon of tomorrow.

Mr. Kallas again:

Structural reforms have so far been limited to the austerity programmes forced on euro countries with debt and budgetary troubles who couldn’t have avoided default without EU help. They are, understandably, extremely unpopular. At the same time, European businesses, which are, in historical terms, a pro-European force, have voiced frustration over ever-multiplying regulations and shrinking market freedoms. So how about taking some big steps to encourage entrepreneurship and to stimulate the private sector?

Before we continue, it is worth noting that the “European businesses” that Mr. Kallas refers to, have in good part been for the so called European project because it has given them competition-harming legislative influence. Many of the product regulations that have come out of Brussels in the past 20 years have been of such a kind that they have benefited certain businesses at the expense of their competitors. British Member of the European Parliament Nigel Farage often makes this point.

By supporting the “European project”, Big Business in Europe have endorsed a government machine that is now slowly turning on them. The same thing has happened here in the United States, which under the Obama administration has led many large corporate donors to back off from Democrats and other statists. Thanks to our much more dynamic political system, we have already seen the tide turn against big, onerous government.

Europe, on the other hand, is still moving in the wrong direction. Mr. Kallas sees this and definitely understands what the consequences are. Whether or not he can get through to big, lobbying corporations and rally their support – well, that remains to be seen. He seems hopeful, though, and he has a good, tangible idea that could resonate in the right places, namely the abolishment of the corporate income tax. Currently, the political trend is toward so called harmonization of the corporate income tax through something called the Common Consolidated Corporate Tax Base. However, says, Mr. Kallas:

More market-oriented policymakers, especially those in economically more successful countries, fear harmonisation is designed to lead to higher taxes. … Many people say big corporations should make big contributions to national treasuries for political reasons, for the sake of social justice. But perhaps they could make a better contribution by creating jobs and decent salaries. In reality, budget revenues from corporate income tax are moderate due to a mixed set of exemptions and derogations.

A very good point. According to OECD tax data, as a government revenue source the personal income tax is three to five times as important as the corporate income tax. In the four biggest euro-zone economies, corporate income tax revenue varies from 1.8 percent of GDP in Germany to three percent in Italy. British and American corporate income tax revenues claim, respectively, 2.5 and 2.3 percent of GDP.

That is not a whole lot of money. However, the termination of the corporate income tax would leave hundreds of billions of euros in the private sector: if corporate income tax revenue equals 2.5 percent of total EU-28 GDP, then its abolition would allow businesses to keep 330 billion euros more per year. While in the current economic climate they would be reluctant to immediately put all of that money to good use, it would be a major boost to their confidence over time.

Just to illustrate the potential magnitude of a confidence boost: 330 billion euros is approximately 14 percent of total gross fixed capital formation in the European Union. This is equivalent to a $454 billion cash injection into American businesses.

Long story short: Mr. Kallas’s idea is very good. The only problem is that Europe’s consumers sorely lack confidence. Their eagerness to buy what Europe’s businesses produce is not going to go up because the corporate income tax is terminated. That said, if there was an improvement in consumer confidence, the corporate response would be solid and in itself reinvigorate private-sector confidence.

The real kicker here would be a combination of an abolished corporate income tax, a structured exit from the welfare state and tax cuts targeted for households – primarily the VAT. That would most certainly revive the European economy and return the continent to global prosperity leadership.

Mr. Kallas is on the right track. Let’s hope he keeps going and that others join him.

The Rise of Radical Socialism

The best thing that could happen to Europe right now is:

  • an orderly retreat from the common currency;
  • a massive program for well-organized, phased-in privatizations of large government programs, coupled with appropriate deregulations; and
  • substantial tax cuts proportionate to the spending cuts resulting from privatization.

Such a program would generate GDP growth and job creation of a sort Europe has not seen since at least the rebuilding of the continent after World War II. Sadly, it does not look like Europe is heading in the libertarian direction. On the contrary, the next wave in the continent’s political life is radical socialism.

That is the only thing more worrying for Europe’s future than a continuation of statist austerity. Radical socialism means restoring government spending to the promises that were made when the welfare states were built, as well as raising taxes accordingly to pay for those spending programs.

Put simply, the radical socialists are trying to balance Europe’s welfare states of the 1980s and 1990s – when they were at the height of their generosity – on top of economies that have not grown for seven years. They want their governments to have the same spending capacity today as they had when the economy was, comparatively, close to full employment.

After the surprisingly strong victory for Syriza in Greece, the socialist wave is now making landfall in Spain. From the Daily Mail:

Hundreds of thousands of people marched through Madrid today in a show of strength by a fledgling radical leftist party, as it becomes the latest European political organisation to gain widespread support for its anti-austerity stance. … The party’s rise is greatly due to the charisma of its pony-tailed leader, Pablo Iglesias, a 36-year-old political science professor.

In a way, this revolutionary change to Europe’s political scene is understandable. The austerity policies that have been dictated by the EU, the European Union and the International Monetary Fund have been a twin-headed dragon spewing fiscal-policy contempt over the citizens of country after country. On the one hand, the policies pledge to maintain government promises in the form of all sorts of cash entitlements and in-kind services; on the other hand government drastically reduces the actual content of those services, sometimes paired with higher taxes that make it increasingly difficult for the citizens of Greece, Spain, Portugal, Italy, France and other countries to satisfy the needs privately that government promises to provide for but no longer does.

This is statist austerity at work. It is a high form of cynicism that fails to achieve its stated goal – a balanced government budget – while draining the private sector of even more resources.

The radical socialists see the first part of the statist-austerity equation, namely the damage it leaves in its tracks. They fail, however, to recognize the second part. Alas, their rhetoric. Daily Mail again:

Hailing from the Madrid working class neighborhood of Vallecas, Iglesias prefers jeans and rolled up shirt sleeves to a suit and tie and champions slogans such as Spain is ‘run by the butlers of the rich’ and that the economy must serve the people. … Opinion polls show the party could possibly take the number one spot in upcoming elections and thus trigger one of the biggest political shake-ups in Spain since democracy was restored in 1978 after decades of dictatorship. … This year, Spain holds elections in 15 of its 17 regions followed by general elections. Podemos’ first battle will be in the southern Socialist heartland of Andalusia in March, followed by regional and municipal elections in the crucial ruling Popular Party stronghold of Madrid in May.

And now the false narrative of the Great Recession is coming back to haunt the political leadership. By portraying this as a financial crisis – which it was not – Europe’s political and economic elite has now served the left with a plateful of demagogical goodies. Back to the Daily Mail:

‘The political class has lost all credibility,’ said unemployed lathe worker Marcos Pineda, 54. ‘The PP that governs today had its former treasurer in jail for corruption and the banks were bailed out with 40 billion euros ($52 billion) of European money, but the government refused to call it a bailout.’ Podemos has often expressed its support for some of the policies of left-wing governments in Venezuela, Bolivia and Ecuador, which makes many Spanish mainstream politicians bristle. In Europe, it openly supports Syriza, which won national elections in Greece on January 25 and which has pledged to challenge the austerity measures imposed on the country by the European Union and International Monetary Fund.

The bank bailouts were tightly tied to the massive purchases that the banks did of treasury bonds from troubled welfare states such as Greece, Spain, Portugal, Italy and Ireland. As the credit rating of those countries – and thus their bonds – tumbled like mortally wounded Sturzkampf bombers, the banks pledged to support those welfare states with more bond purchases. In exchange, the banks were given tax-funded bailout money, though as I will show in my next book the bailout money was far from enough to cover what the banks spent on welfare-state junk bonds.

Put bluntly: the banks saved the welfare states, not the other way around. But Europe’s supporters of free market capitalism have failed miserably at communicating this to the public. As a result they leave the political field – and the privilege of defining the political discourse – to the most dangerous socialists Europe has been home to since the Cold War.

This new radical socialist movement is ready to go farther down the red brick road to collectivism than any other leftist movement since the heydays of Communism. With such role models as Venezuela’s now-defunct Hugo Chavez, movements like Syriza and Podemos won’t think twice of destroying property rights and other cornerstones of a functioning economy. They will follow a long-established socialist agenda of evolving their big government from the welfare state and its indicative form of central economic planning to the teleological version used by Communists.

Think it can’t happen now? Go back and read the theorists behind the welfare state project. Go study the works of Gunnar Myrdal and John Kenneth Galbraith. Their roadmap from the first elements of income redistribution to full-blown government control over the entire economy has been followed very faithfully by the left. The only reason why they have not yet reached the teleological planning stage in Europe is that their advancement of government has been interrupted from time to time by voters electing moderate statists – a.k.a., liberals and “conservatives”.

Now, though, the established center-right parties are losing credibility, and losing it fast. M/S Europe, having hit the austerity iceberg, is listing left.

How much water can she take in before she goes down?

EU Economic Standstill in Details

Today it is time to review in more detail the latest national accounts data from Eurostat. A disaggregation of the spending side of GDP reinforces my long-standing statement: the European economy is in a state of long-term stagnation.

To the numbers. We begin with private consumption, which is the driving force of all economic activity. It is not only a national-accounts category, but an indicator of how free and prosperous private citizens are to satisfy their own needs on their own terms. It is a necessary but not sufficient condition for economic freedom that private consumption is the dominant absorption category.

Once consumer spending starts ticking up solidly, we can safely say there is a recovery under way. However, little is happening on the consumption front: over the past eight quarters (ending with Q3 2014) the private-consumption growth rate for the EU has been 0.3 percent per year. While the increase was stronger in 2014 than in 2013, only half of the EU member states experienced a growth in consumer spending of two percent or more in the last year. The three largest euro-zone countries, Germany, France and Italy, were all at 1.2 percent or less.

One bright spot in the consumption data: Greece, Spain and Portugal, the three member states that have been hit the hardest by statist austerity, now have an annual consumption growth rate well above 2.5 percent. Portugal has been above two percent for three quarters in a row; a closer look at these three countries is merited.

Overall, though, the statist-austerity policies during the Great Recession have caused a structural shift in the European economy that may be hard to reverse. From having been a consumer-based economy with strong exports, the EU has now basically been transformed into an exports-driven economy. On average, gross exports is larger as share of GDP than private consumption.

In theory, one could argue that this is a sign of free-market trade where people and businesses choose to buy what they want and need from abroad instead. I would be inclined to agree – but only in theory. In practice, if households and businesses freely made their choices on a global market, then rising exports would correlate with rising imports and, most importantly, rising private consumption. However, that is not the case in Europe. On average for the 28 EU member states,

  • Exports has increased from an unweighted average of 59 percent of GDP in 2007 to an unweighted average of 70 percent in 2014;
  • Net exports has also increases, from zero in 2007 (indicating trade balance) to six percent of GDP in 2014 (indicating a massive trade surplus).

If the rising exports had been a sign of increased participation in global trade on free-market terms, then either of two things would have happened: consumption would have increased as share of GDP or imports would have increased on par with exports. In reality, neither has happened, which leads to one of two conclusions:

  1. There has been a massive increase in corporate investments, which if true would indicate growing confidence in the future among Europe’s businesses; or
  2. Exports is the only category of the economy that is allowed to grow because it is not subject to the tight spending restrictions imposed by austerity.

Gross fixed capital formation, or “investments” as it is often casually referred to, was an unweighted average of 26 percent in the EU member states in 2007. Seven years later it had fallen to 21 percent. This is clearly a vote of no confidence from corporate Europe. Therefore, only one explanation remains: the discrepancy between on the one hand the rise in gross and net exports and, on the other hand, stagnant private consumption and a declining investment share, is the result of a fiscal policy driven by statist austerity.

The purpose of fiscal policy in Europe since at least the beginning of the Great Recession has been to balance the government budget at any cost. If this statist austerity leads to a painful decline in household consumption or corporate investments, then so be it. As shown by the numbers reported here, years of statist austerity have depressed corporate activity. In fixed prices, gross fixed capital formation in the EU has not increased since 2011:

  • In the third quarter of 2011 businesses invested for 607.8 billion euros;
  • In the third quarter of 2014 they invested for 602 billion euros.

The bottom line here is that the only form of economic activity that brings any kind of growth to the European economy is – you guessed it – exports. But it is not just any exports. It is exports outside of the EU. How do we know that? Because of the following two tables. First, the average annual private-consumption growth rate, reported quarterly, for the past eight quarters (ending Q3 2014):

Private consumption growth
Lithuania 4.4% France 0.2%
Latvia 4.3% Denmark 0.0%
Estonia 4.0% Ireland -0.2%
Romania 2.2% Bulgaria -0.2%
Sweden 2.1% Austria -0.3%
Malta 2.0% Finland -0.4%
United Kingdom 1.7% Portugal -0.5%
Poland 1.7% Spain -0.8%
Luxembourg 1.6% Netherlands -1.1%
Germany 0.8% Greece -1.4%
Hungary 0.6% Croatia -1.5%
Belgium 0.5% Italy -1.8%
Czech Republic 0.4% Slovenia -2.1%
Slovakia 0.3% Cyprus -3.5%

With private consumption growing at less than one percent in 19 out of 28 countries, households in the EU do not form a good market for foreign exporters.

Things a not really better in the category of business investments:

Gross fixed capital formation
Ireland 7.5% Latvia -0.2%
Hungary 7.4% Slovakia -0.9%
Lithuania 6.4% France -1.1%
Malta 5.1% Czech Republic -1.5%
United Kingdom 4.5% Netherlands -1.7%
Poland 3.3% Spain -2.1%
Slovenia 2.0% Croatia -2.5%
Sweden 1.7% Luxembourg -2.5%
Estonia 1.7% Portugal -3.7%
Denmark 1.4% Italy -4.5%
Germany 0.9% Finland -5.2%
Bulgaria 0.5% Romania -6.0%
Belgium -0.1% Greece -7.3%
Austria -0.1% Cyprus -14.3%

What this means, in plain English, is that the European economy still is not pulling itself out of its recession.

But is it not possible that things have changed recently? After all, the time series analyzed here end with the third quarter of 2014. There is always that possibility, but one indication that the answer is negative is the latest report on euro-zone inflation. From EU Business:

Eurozone consumer prices fell by a record 0.6 percent in January, EU data showed Friday, confirming deflation could be taking hold and putting pressure on a historic bond-buying plan by the ECB to deliver. The drop from minus 0.2 percent in December appears to back the European Central Bank’s decision last week to launch a bond-buying spree to drive up prices. Plummeting world oil prices were largely to blame for the fall in the 19-country eurozone, already beset by weak economic growth and high unemployment, the EU’s data agency Eurostat said.

If the EU governments let declining oil prices trickle down to consumers – and avoid raising taxes in response – there could be a positive reaction in private consumption. However, lower gasoline and home heating costs will not be enough to turn around the European economy.

More on that later, though. For now, the conclusion is that Europe is going nowhere.

Weak Growth – No Recovery

Recently Eurostat released national accounts data for the third quarter of 2014. Here is a review of those numbers in the context of historical GDP data. All growth rates are in 2005 chained prices.

First, the growth rates of 28-member EY and 18-member euro zone:

EU EURO

The real annual growth rate of the EU-28 GDP is 1.51 percent, compared to 1.34 percent in Q2 of 2014 and 1.61 percent in Q1. Euro-zone growth is markedly lower – for first, second and third quarters of last year, respectively: 1.08, 0.65 and 0.79 percent. The difference between the euro zone and the EU-28 is primarily the work of a recovery in the British economy. In the three quarters of 2014, Britain saw its GDP growth at 1.8, 3.6 and 3.2 percent, respectively. If we subtract the U.K. economy from the EU-28 GDP, the European growth rates for 2014 fall to (with actual rates in parentheses) 1.58 (1.61), 0.89 (1.34) and 1.17 (1.51) percent. A distinct difference, in other words.

As the aforementioned numbers report, there is not much to be joyful of inside the euro zone. There are member states with strong growth, but they tend to be of marginal importance for the entire zone. In the third quarter of 2014 the strongest-growing euro-zone countries were Luxembourg (3.99 percent over Q3 2013), Malta (3.82) and Ireland (3.54). By contrast, the three largest euro economies have a tough time growing at all: Germany (1.24 percent over Q3 2013) and France (0.24) kept their nose above water, while third-largest Italy saw its GDP decline by half a percent.

Here is the growth history of the three largest euro-zone economies:

Italy France Germany

We will have to wait and see what the new Greek government will do to the future of the euro and the confidence of private-sector agents in the European economy. With Syriza teaming up with a distinctly nationalist party, the message out of Athens could not be stronger: Greece is off on a new course, and it won’t be with the best interests of the euro zone in mind.

There is a lot more to be said about these GDP numbers. It will be very interesting to look at what sectors are driving whatever growth there is – and which ones are contracting. I suspect that exports will play a larger role than domestic demand. Hopefully I am wrong, because if I am correct it means that there is still no change in overall private-sector confidence in the euro zone. But that remains to be seen; I will return to this dissemination of Europe’s national accounts as soon as possible.

The New Left and Europe’s Future

Only a couple of days after the European Central Bank raised white flag and finally gave up its attempts at defending the euro as a strong, global currency, Greek voters drove their own dagger through the heart of the euro. Reports The Telegraph:

Greece set itself on a collision course with the rest of Europe on Sunday night after handing a stunning general election victory to a far-Left party that has pledged to reject austerity and cancel the country’s billions of pounds in debt. In a resounding rebuff to the country’s loss of financial sovereignty, With 92 per cent of the vote counted, Greeks gave Syriza 36.3 percent of the vote – 8.5 points more than conservative New Democracy party of Prime Minister Antonis Samaras.

That is about six percent more than most polls predicted. But even worse than their voter share is how the parliamentary system distributes mandates. The Telegraph again:

It means they will be able to send between 149 and 151 MPs to the 300-seat parliament, putting them tantalisingly close to an outright majority. The final result was too close to call – if they win 150 seats or fewer, they will have to form a coalition with one of several minor parties. … Syriza is now likely to become the first anti-austerity party in Europe to form a government. … The election victory threatens renewed turmoil in global markets and throws Greece’s continued membership of the euro zone into question. All eyes will be on the opening of world financial markets on Monday, although fears of a “Grexit” – Greece having to leave the euro – and a potential collapse of the currency has been less fraught than during Greece’s last general election in 2012.

It does not quite work that way. The euro is under compounded pressure from many different elements, one being the Greek economic crisis. The actions by the ECB themselves have done at least as much to undermine the euro: its pledge last year to buy all treasury bonds from euro-zone governments that the market wanted to sell was a de facto promise to monetize euro-denominated government debt. The EU constitution, in particular its Stability and Growth Pact, explicitly forbids debt and deficit monetization. By so blatantly violating the constitution, the ECB undermined its own credibility.

Now the ECB has announced that in addition to debt monetization, it will monetize new deficit. That was the essence of the message this past Thursday. The anti-constitutionality of its own policies was thereby solidified; when the Federal Reserve ran its multi-year Quantitative Easing program it never violated anything other than sound economic principles. If the ECB so readily violates the Stability and Growth Pact, then who is to say it won’t violate any other of its firmly declared policy goals? When euro-zone inflation eventually climbs back to two percent – the ECB’s target value – how can global investors trust the ECB to then turn on anti-inflationary policies?

Part of the reason for the Stability and Growth Pact was that the architects of the European Union wanted to avoid runaway monetary policy, a phenomenon Europeans were all too familiar with from the 1960s and ’70s. Debt and deficit monetization is a safe way to such runaway money printing. What reasons do we have, now, to believe that the ECB will stick to its anti-inflationary pledge when the two-percent inflation day comes?

This long-winded explanation is needed as a background to the effects that the Syriza victory may have on the euro. I am the first to conclude that those effects will be clearly and unequivocally negative, but as a stand-alone problem for the ECB the Greek hard-left turn is not enough. In a manner of speaking, the ECB is jeopardizing the future of the euro by having weakened the currency with reckless monetary expansionism to the point where a single member-state election can throw the future of the entire currency union into doubt.

Exactly how the end of the euro will play out remains to be seen. What we do know, though, is that Thursday’s deficit-monetization announcement and the Greek election victory together put the euro under lethal pressure. The deficit-monetization pledge is effectively a blank check to countries like Greece to go back to the spend-to-the-end heydays. Since the ECB now believes that more deficit spending is good for the economy, it has handed Syriza an outstanding argument for abandoning the so-deeply hated austerity policies that the ECB, the EU and the IMF have imposed on the country. The Telegraph again:

[Syriza], a motley collection of communists, Maoists and socialists, wants to roll back five years of austerity policies and cancel a large part of Greece’s 320 billion euro debt, which at more than 175 per cent of GDP is the world’s second highest proportional to the size of the economy after Japan. … If they fulfil the threats, Greece’s membership of the euro zone could be in peril. Mr Tsipras has toned down the anti-euro rhetoric he used during Greece’s last election in 2012 and now insists he wants Greece to stay in the euro zone. Austerity policies imposed by the EU and International Monetary Fund have produced deep suffering, with the economy contracting by a quarter, youth unemployment rising to 50 per cent and 200,000 Greeks leaving the country.

Youth unemployment was up to 60 percent at the very depth of the depression. Just a detail. The Telegraph concludes by noting that:

Mr Tsipras has pledged to reverse many of the reforms that the hated “troika” of the EU, IMF and European Central Bank have imposed, including privatisations of state assets, cuts to pensions and a reduction of the minimum wage. But the creditors have insisted they will hold Greece to account and expect it to stick to its austerity programmes, heralding a potentially explosive showdown.

Again, with the ECB’s own Quantitative Easing program it becomes politically and logically impossible for the Bank and its two “troika” partners to maintain that Greece should continue with austerity. You cannot laud government deficit spending with one side of your mouth while criticizing it with the other.

As a strictly macroeconomic event, the ECB’s capitulation on austerity is not bad for Greece. The policies were not designed to lift the economy out of the ditch. They were designed to make big government more affordable to a shrinking private-sector economy. However, a return to government spending on credit is probably the only policy strategy that could possibly have even worse long-term effects than statist austerity.

Unfortunately, it looks like that is exactly where Greece is heading. Syriza’s “vision” of reversing years of welfare-state spending cuts is getting a lot of support from various corners of Europe’s punditry scene. For example, in an opinion piece at Euractiv.com, Marianna Fotaki, professor of business ethics at University of Warwick, England, claims that the Syriza victory gives Europe a chance to “rediscover its social responsibility”:

Greece’s entire economy accounts for three per cent of the eurozone’s output, but its national debt totals 360 billion or 175 per cent of the country’s GDP and poses a continuous threat to its survival. While the crippling debt cannot realistically be paid back in full, the troika of the EU, European Central Bank, and IMF insist that the drastic cuts in public spending must continue. But if Syriza is successful – as the polls suggest – it promises to renegotiate the terms of the bailout and ask for substantial debt forgiveness, which could change the terms of the debate about the future of the European project.

As I explained recently, so called “debt forgiveness” means that private-sector investors lose the same amount of money. The banks that received such generous bailouts earlier in the Great Recession had made substantial investments in Greek government debt. Would Professor Fotaki like to see those same banks lose even more money? With the new bank-rescue feature introduced as the Cyprus Bank Heist, such losses would lead to confiscation of the savings that regular families have deposited in their savings accounts.

Would professor Fotaki consider that that to be an ethically acceptable consequence of her desired Greek debt “forgiveness”?

Professor Fotaki then goes on a long tirade to make the case for more income redistribution within the euro zone:

The immense social cost of the austerity policies demanded by the troika has put in question the political and social objectives of an ‘ever closer union’ proclaimed in the EU founding documents. … Since the economic crisis of 2007 … GDP per capita and gross disposable household incomes have declined across the EU and have not yet returned to their pre-crisis levels in many countries. Unemployment is at record high levels, with Greece and Spain topping the numbers of long-term unemployed youth. There are also deep inequalities within the eurozone. Strong economies that are major exporters have benefitted from free trade, and the fixed exchange rate mechanism protecting their goods from price fluctuations. But the euro has hurt the least competitive economies by depriving them of a currency flexibility that could have been used to respond to the crisis. Without substantial transfers between weaker and stronger economies, which accounts for only 1.13 per cent of the EU’s budget at present, there is no effective mechanism for risk sharing among the member states and for addressing the consequences of the crisis in the eurozone.

In other words, Europe’s welfare statists will continue to blame the common currency for the consequences of statist austerity. But while professor Fotaki does have a point that the euro zone is not nearly an optimal currency area, the problems that she blames on the euro zone are not the fault of the common currency. Big government is a problem wherever it exists; in the case of the euro zone, big government has caused substantial deficits that, in turn, the European political leadership did not want to accept – and the European constitution did not allow. To battle those deficits the EU, the ECB and the IMF imposed harsh austerity policies on Greece among several other countries. But countries can subject themselves to those policies without being part of a currency union: Denmark in the 1980s is one example, Sweden in the ’90s another. (I have an entire chapter on the Swedish ’90s crisis in my book Industrial Poverty.) The problem is the structurally unaffordable welfare state, not the currency union.

Professor Fotaki again:

The member states that benefitted from the common currency should lead in offering meaningful support, rather than decimating their weaker members in a time of crisis by forcing austerity measures upon them. This is not denying the responsibility for reckless borrowing resting with the successive Greek governments and their supporters. However, the logic of a collective punishment of the most vulnerable groups of the population, must be rejected.

What seems to be so difficult to understand here is that austerity, as designed for Greece, was not aimed at terminating the programs that those vulnerable groups life off. It was designed to make those programs fit a smaller tax base. If Europe’s political leaders had wanted to terminate those programs and leave the poor out to dry, they would simply have terminated the programs. But their goal was instead to make the welfare state more affordable.

It is an undeniable fact that the politicians and economists who imposed statist austerity on Greece did so without being aware of the vastly negative consequences that those policies would have for the Greek economy. For example, the IMF grossly miscalculated the contractionary effects of austerity on the Greek economy, a miscalculation their chief economist Olivier Blanchard – the honorable man and scholar he is – has since explained and taken responsibility for.

Nevertheless, the macroeconomic miscalculations and misunderstandings that have surrounded statist austerity since 2010 (when it was first imposed on Greece) do not change the fact that the goal of said austerity policies was to reduce the size of government to fit a smaller economy. That was a disastrous intention, as shown by experience from the Great Recession – but it was nevertheless their goal. However, as professor Fotaki demonstrates with her own rhetoric, this point is lost on the welfare statists whose only intention now is to restore the welfare state to its pre-crisis glory:

The old poor and the rapidly growing new poor comprise significant sections of Greek society: 20 per cent of children live in poverty, while Greece’s unemployment rate has topped 20 per cent for four consecutive years now and reached almost 27 per cent in 2013. With youth unemployment above 50 per cent, many well-educated people have left the country. There is no access to free health care and the weak social safety net from before the crisis has all but disappeared. The dramatic welfare retrenchment combined with unemployment has led to austerity induced suicides and people searching for food in garbage cans in cities.

There is nothing wrong factually in this. The Greek people have suffered enormously under the heavy hand of austerity, simply because the policies that aim to save the welfare state for them also move the goal post: higher taxes and spending cuts drain the private sector of money, shrinking the very tax base that statist austerity tries to match the welfare state with.

The problem is in what the welfare statists want to do about the present situation. What will be accomplished by increasing entitlement spending again? Greek taxpayers certainly cannot afford it. Is Greece going to get back to deficit-funded spending again? Professor Fotaki gives us a clue to her answer in the opening of her article: debt forgiveness. She wants Greece to unilaterally write down its debt and for creditors to accept the write-down without protest.

The meaning of this is clear. Greece should be able to restore its welfare state to even more unaffordable levels without the constraints and restrictions imposed by economic reality. This is a passioned plea for a new debt crisis: who will lend money to a government that will unilaterally write down its debt whenever it feels it cannot pay back what it owes?

This kind of rhetoric from the emboldened European left rings of the same contempt for free-market Capitalism that once led to the creation of the modern welfare state. The welfare state, in turn, brought about debt crises in many European countries during the 1980s and ’90s, in response to which the EU created its Stability and Growth Pact. But the welfare states remained and gradually eroded the solidity of the Pact. When the 2008 financial crisis hit, the European economy would have absorbed it and shrugged it off as yet another recession – just as it did in the early ’90s – had not the welfare state been there. Welfare-state created debt and deficits had already stretched the euro-zone economy thin; all it took to sink Europe into industrial poverty and permanent stagnation was a quickly unfolding recession.

Ironically, the state of stagnation has been reinforced by austerity policies that were designed in compliance with the Stability and Growth Pact; by complying with the Pact, those policies, it was said, would secure the macroeconomic future of the euro zone and keep the euro strong. Now those policies have led the ECB to a point where it has destroyed the future of its own currency.

The Day When the ECB Gave Up

And so it begins:

The European Central Bank will plough €1.1 trillion into the eurozone economy in a last-ditch attempt to breath [sic] life into the European economy. At its monthly governing council on Thursday (January 22), the bank’s governing council agreed to start buying up to €60bn of government bonds from March in an unprecedented quantitative easing programme.

How is this supposed to happen? Private spending would accelerate if interest rates went down, but that will happen if and only if the interest rate on treasury bonds falls as a result of this new ECB spending program. That, in turn, can only happen if demand for treasury bonds increased enough to overcome the risk premium associated with euro-zone member states.

However, the risk premium was supposed to go away with the bond purchase program that the ECB announced last summer. Back then the bank pledged an open-ended purchase program for treasury bonds issued by troubled euro-zone countries: everyone and anyone who owned a treasury bond issued by, say, Greece would be guaranteed to get his money back by selling it to the ECB. This guarantee, then, would bring down interest rates and stimulate private-sector activity.

But this did not happen. The bond buy-back program may have had a marginally visible effect on interest rates, but it certainly was not enough to encourage any sustained upswing in private-sector activity.

When that did not work the ECB pushed bank-lending interest rates through the floor by lowering the rate on overnight bank deposits to -0.2 percent. That had no effect whatsoever on private-sector activity. So after having opened two liquidity flood gates on the European economy, without coming even close to achieving desired results, the ECB has now decided to open the third flood gate.

Well, if you try the same thing enough times over and over again, then eventually it might actually work…

Back to the EU Observer story:

The programme is open-ended, and will run until September 2016 at the earliest. Speaking at a press conference following the governing council meeting, ECB president Mario Draghi said that the bond-buying programme would remain in place “until we see a sustained adjustment in the path of inflation which is consistent with our aim of achieving inflation rates below, but close to, 2%” … The Frankfurt-based bank hopes to boost inflation and drive down the value of the euro against other major currencies in a bid to make the bloc’s exports more attractive.

This is a tried-and-failed strategy. Every time a country depreciates or devalues its currency to boost exports, the main result is an increase in profits among large, dominant and already-established manufacturing businesses. Those profits, in turn, are free of charge for the businesses: all they have to do is keep manufacturing the very same products, without investments toward improved competition.

If this currency-based exports rebate is maintained long enough, the result will be a decay in productivity in exporting businesses. They have no profit-based reason to make new investments – quite the contrary. Any investments toward enhanced competitiveness will divert funds from the free-cash profits.

But what will the businesses use their cash for? Financial investments. This in turn will flood the domestic economy with even more liquidity than was already injected into it by the central bank’s aggressive monetary policy. More and more money will chase fewer and fewer profitable investments. In the meantime, little to nothing is going to happen in the real sector; the only moving part will be credit-driven consumption of durable goods like cars, and private real estate. But that will require a rapid build-up of private-sector debt, which in turn is a recipe for – yet another – future financial crisis.

Overall, as I have explained before, this QE program will notch the euro yet another inch or two toward its grave. And just to make sure there is enough certainty about where the euro is heading, the other day the the EU Observer reported that Greece may be allowed to exit its tough austerity program – without having solved its underlying macroeconomic problems:

A legal opinion by the EU top court and comments by the EU economics commissioner about the end of the bailout troika have come just days before elections in Greece, where troika-imposed austerity is a central issue. … EU economics commissioner Pierre Moscovici on Monday (19 January) … said the “troika should be replaced with a more democratically legitimate and more accountable structure based around European institutions with enhanced parliamentary control”. Moscovici added that the troika “was useful and necessary” at the height of the crisis, “but now I think we need another step.” His comments come just a week after a legal opinion by the general advocate of the European Court of Justice said that the European Central Bank should not oversee reforms of countries it helps via Outright Monetary Transactions, a bond-buying scheme coupled with structural reforms modelled on what the troika has done in bailed-out countries.

In other words, the ECB can no longer come with cash in one hand and demands for austerity in the other. It has to choose either. Since the ECB has chosen to come with money, this means an end to austerity demands.

In reality this is a carte blanche to euro-zone governments in, e.g., Greece to get back to the old days of spending. The ECB promises to buy its treasury bonds, the austerity protesters in, e.g., Syriza have in the public opinion won the argument over austerity, and the ECB is desperate to see some kind of life sign in the European economy. This is a perfect storm for a massive increase in government spending.

This is, of course, exactly the wrong recipe for the European economy. Nevertheless, this is how the game is set up. More government spending, more money printing – until the euro is in so bad shape that it collapses into junk status and goes the same way the Reichsmark did in Weimar Germany.

The cold, hard, bottom line here is that government spending, bankrolled with monetary printing presses, does not create productive economic activity. All it does is dig the economy further into the same hole into which it has been slowly sinking for the past six years.

The ECB has given up. They are not even trying to play defense anymore.

This is the beginning of the end of the euro.

Euro-QE Would Be Big Mistake

How much time does the euro have left? That question was put on its edge last week when the Swiss National Bank decided it was no longer going to anchor the Swiss franc to the iceberg-bound euro ship. It was a wise decision for a number of reasons, the most compelling one being that the euro faces insurmountable challenges in the years ahead.

In fact, the Swiss decision was de facto a death spell for Europe’s currency union. More specifically, I noted that the euro

survived the Greek depression of 2012 by a razor-thin margin. Now it faces three very serious threats to its own survival. The first is the upcoming Greek elections, where anti-austerity, anti-euro, pro-Hugo Chavez Syriza looks like winners. Should they emerge victorious they could very well initiate a Greek exit from the currency union. The euro would survive that, and the German government has a contingency plan in place to stabilize the euro. But then there is the Greek government debt… Syriza has openly declared that they want “debt forgiveness” for governments throughout Europe. If the drachma is reintroduced, it will very likely plummet vs. the euro, making it exceptionally difficult for Syriza to repay its loans to the EU and the ECB. A default is within the realm of the probable; remember the Greek “debt write down” three years ago.

If all the problems for the euro were tied to Greece, the currency would indeed have a future. But there are so many other challenges ahead for the common currency that nothing short of a miracle – or unprecedented political manipulation – can keep it alive through the next three years.

The biggest short-term problem – Greece aside – is the pending announcement by the ECB of its own Quantitative Easing program. Reuters reports:

The European Central Bank will announce a 600 billion euro sovereign bond buying program this week, money market traders polled by Reuters say, but they also believe this will not be enough to bring inflation up to target. In the past two months traders have consistently predicted that the ECB would undertake quantitative easing, considered the bank’s final weapon against deflation. Eighteen of 20 in Monday’s poll said the bank would announce QE on Thursday.

This highly anticipated European QE program must be viewed in its proper macroeconomic context. It is going to be very different from the American QE program. For starters, the balance between liquidity supply and liquidity demand was very different in the U.S. economy than it is in the euro zone today. After its initial plunge into the Great Recession the American economy slowly but relentlessly worked its way back to growth again. Since climbing back to growth in 2010 the U.S. GDP has grown at a rate slightly above two percent per year. This is not something to throw a party over, but it has allowed the economy to absorb much of the liquidity that the Federal Reserve has pumped into the economy.

By being able to absorb liquidity, the U.S. economy has avoided getting caught in the liquidity trap. Growth rates have been good enough to motivate businesses to increase investment-driven credit demand; households have gotten back to buying homes and automobiles (car and truck sales in 2014 were almost as good as in pre-recession 2006).

The European economy does not absorb liquidity. It is stagnant, and has been so for three years now. The ECB has pushed its bank deposit rate to -0.2 percent, in other words it is punishing banks for not lending enough money to its customers. Despite this ample supply of credit there are no signs of a recovery in the euro zone, with GDP growth having reached the one-percent rate once in three years.

In other words, the positive outlook on the future that motivates American entrepreneurs and households to absorb liquidity through credit is notably absent in the European economy. When the ECB now evidently plans to pump even more liquidity out in the economy, it appears to not understand how significant this difference is between the euro zone and the United States.

Or, to be fair, with all its highly educated economists onboard, the ECB most certainly understands what role liquidity demand plays in an economy. Its pending decision to launch a QE program appears instead to be based in open ignorance of the lack of liquidity demand.

Which leads us to ask why they would ignore it.

The answer to this question is in the declared purpose of the QE program. If it is aimed at buying treasury bonds, then the QE program clearly is not designed to re-ignite the economy, an argument otherwise used. If QE is supposed to monetize government deficits, then its purpose is really to secure the continued existence of the European welfare state. If that is the purpose, then the only safe prediction is that there will be no end to QE before the welfare state ends.

That, in turn, means the ECB would be stuck monetizing deficits for the rest of the life of the euro. Which, under such circumstances, would be a relatively short period of time…

More on this on Thursday, when the ECB is expected to announce its QE program. Stay tuned.