EKIP– Expert Club for Economics and Politics A Different Opinion
Author: Nikolay Nenovski
Professor at Jules Verne University, France
Former member of the Board of Directors of the Bulgarian National Bank
The material was written on October 30, 2019.
Due to space limitations, I will formulate my views as theses.
On the monetary policy of the ECB and in general on the monetary policy of the leading central banks
I believe (and I am not alone) that the recent decisions of the leading Central Banks (CBs), especially the ECB and the Fed, to continue monetary expansion through quantitative easing, buying public debt, and reducing interest rates to zero and negative levels (in the case of the ECB), is an extremely explosive, politically motivated and generally stupid policy. A similar policy is observed, albeit in a different context, in China (where huge volumes of liquidity are being injected, $28 billion on October 15 alone) and in Russia (where the interest rate was recently reduced and this is promised to continue).
There is no doubt that monetary expansions in the four zones are a direct reaction to the processes of growing protectionism, economic and monetary nationalism, and the collapse of the global economy. Each of the four monetary policies aims to stimulate domestic demand, as well as to devalue the exchange rate. The task is to increase inflation, which is below the targeted levels (2% in Europe and the USA, and 4% in Russia, 3% in China). In China and Russia, monetary policy is dictated by sanctions and domestic political processes. In Russia, for example, inflation targeting introduced in 2014 aims to free the exchange rate, preserve and accumulate foreign exchange reserves as a guarantee of economic and political independence. Subsequently, the introduction of capital controls can also be assumed. Such controls have long been in force in China. However, monetary nationalism comes into total contradiction with the already formed global production chains.
In large countries, inflation is determined globally, in small ones externally. The very measurement of inflation in today's digital world becomes practically impossible and even unnecessary. The basket of goods and services through which the price index is formed is constantly changing, new, and with unknown quality, digital products and services are constantly entering.
Now, more specifically about the ECB. What I will say in general also applies to the FED. The massive growth of the ECB’s balance sheet leads to a number of dangers. First, a giant pyramid of public debt is being created, a large-scale “moral hazard” scheme. Governments stop making structural and fiscal reforms, they have no interest in collecting taxes. Second, banks also become dependent on the ECB’s balance sheet, they no longer communicate with each other through the interbank market, which has practically disappeared (Eonia was recently replaced by a new short-term rate €STR). And it is this interbank market that is the center of the market economy and capitalism. Information is received there and discipline is imposed. The interbank rate no longer moves in a corridor, as is normal, but is “glued to the floor” – close to the ECB’s deposit rate. The floor, as we know, is underwater, - the deposit rate is becoming more and more negative (-0.50%).
It has been repeatedly written that banks are losing, as a reaction they are reducing interest rates on deposits, hence savers are also losing. The same process is observed in Bulgaria. In general, credit is being restricted, contrary to what is supposedly aimed at. The yield curve is becoming flat and even inverted, extremely worrying trends. A number of other social financial intermediaries, pension and insurance funds, are also accumulating losses. It is not at all clear to me how ordinary citizens are profiting from all this.
Finally, the EU's problems are structural, large disparities, low competitiveness, lack of technological progress. Long-term potential growth in the area is between 0 and 1% (with few exceptions). It is not clear how printing money will change things. The example of Japan, where 20 years of zero interest rates and quantitative easing resulted in zero growth and 250% debt, is indicative. I do not understand why this fact is being kept quiet. Why should this policy be successful in Europe, if it is not in Japan, especially since Japan is a nation, and there is none in Europe. In Europe, the ECB's policy is even more dangerous because it reinforces the differences and disparities between countries. This process of divergence is already very clear, no econometric analyses by the European institutions can hide it. As an English economist says, "Common sense does not lend itself to statistics."
The new head of the ECB is extremely dangerous for this post. There should have been a German there. Lagarde not only lacks economic competence, but she has a French attitude (as evidenced by the huge article praising her in Le Monde a week before she took office, in this article there is not a word about monetary policy, but only about how Lagarde communicates and how interesting and intelligent she is). There is every reason to expect organizational scandals in the ECB. On the very first day, Lagarde reproached Germany and the Netherlands for not investing through the budget, which interfered in their economic policy. These are extremely reckless words, considering that this is the third or fourth time in a row that a representative of Germany has left the ECB's governing board, disagreeing with its policy of printing money.
Those who conduct today's monetary policy proceed from the unproven position that real (equilibrium) interest rates are extremely low and will remain so for decades. They have a theoretical concept (once launched by B. Bernanke to justify low US interest rates) that for a number of reasons there is "global oversaving". I do not share this opinion. I believe that a monetary explanation for low interest rates is more reliable, i.e. related to the behavior of central banks. If I am right, then sooner or later inflation will return. Raising wages (under pressure from various social movements, yellow vests, etc.) will be a major factor (of course not the only one). It is no coincidence that today wages are being limited almost everywhere. Inflation will inevitably translate into an increase in nominal interest rates. From here, every normal economist knows what will follow - bankruptcies of several leading countries in the EU (Italy for sure, France - almost certainly). That is, the end, - there is no euro, - something else will have to be invented. But no one wants to think. Including in Bulgaria. This brings me to the second point of this text.
For Bulgaria and the eurozone.
When a house is on fire or there is a fight or a scandal inside, no normal person would try to enter. Unless they want to burn, put out the fire or fight. It is said that Bulgarians had common sense and “rural” pragmatism (I highly value rural pragmatism). Another famous English economist says that “in order to see what is under your nose, you need to constantly fight”.
That's why I don't understand the discussion about membership, about applying, about waiting rooms, about trains, about homework, and about other painful physical and mental movements in the direction of the eurozone. In other countries, there is no such discussion (even in Romania, things are more careful). Or if I understand things, I can assume two main reasons: the first - stupidity, the second - political motivation to receive European funds (which, by the way, will soon stop) or some other unclear personal benefits. The European Union and the eurozone are at a crossroads, and the level of uncertainty has never been higher. And I want to emphasize that by saying this, I do not deny Bulgaria's European choice, for me it is more than clear.
It is often believed that the transition from a Currency Board (CB) to the euro comes by itself. I also thought so, and I continue to think so, but the euro itself has become a bubble and is currently carrying negatives. It is not a clear anchor, but rather a plastic anchor that can start floating in different directions. Therefore, for Bulgaria, the CB is a more suitable monetary regime, it gives us the opportunity to maneuver in different directions. It can also give us the opportunity to change the monetary anchor. In this line of thought, it is good to increase the accumulation of gold and other tangible assets and reduce the share of securities (which are mostly denominated in euros). Why are all central banks accumulating gold (even Romania, which even repatriates its gold)? A number of banks are striving to free themselves from their dependence on unsafe debt securities denominated in balloons such as euros and dollars. I hope that we are doing the same. Alternatives must be sought.
About digital money
Finally, I want to point out the extremely harmful idea of creating monopoly digital money by central banks. They and governments aim for low interest rates to be eternal and to accumulate debt until the end of the world. Therefore, central banks aim to destroy available money (cash) and put practically the entire payment community under control - banks, businesses and citizens. Interestingly, the more authoritarian a regime is, the more its central bank focuses on this possibility. They also aim to stop private monetary and financial digital innovations. All this will lead to the following. Let me put it artistically.
Central banks will become one giant digital State Bank, one Big Brother that will know everything about everyone. And the main rule of the State Bank will become:
"Who controls the internet controls the money,
who controls the money - controls the citizens,
and whoever controls the citizens controls the internet!
And then each of us will be able to be sure that:
"Control is freedom,
banknotes and coins are digital,
inflation is deflation,
and negative interest rates are positive!
Everything seems to have been turned upside down after banks in Denmark started giving mortgages at negative interest rates last year. In Bulgaria, we have not yet reached these heights, although we are moving towards that - there are banks in our country that also pay themselves to place resources instead of keeping them at negative interest rates in the BNB. Unfortunately, rational behavior today requires spending instead of saving, which, with an aging population and continuous pressure on large social systems built almost everywhere on a pay-as-you-go basis, means really serious inflation in the future and certain impoverishment.