The European Central Bank announced today that it would not lower its bank lending rate from the current 1%. Although it’s not clear how much benefit a rate reduction would have achieved, observers had hoped the ECB would at least signal in some way it’s willingness to do much more to support the falling economies in Europe and particularly the Euro zone nations. But ECB head Mario Draghi threw cold water on that. From the Financial Times:
The ECB president notes most of the problems befalling the eurozone having “nothing to do with monetary policy”. He also reiterates that standard measures such as rate cuts don’t do much to help in times of crisis. But a rate cut couldn’t have done much harm either.
How much pain can the countries under stress endure? Nobody knows. What would happen if a country left the eurozone? Nobody knows. Might even Germany consider exit? Nobody knows. What is the long-run strategy for exit from the crises? Nobody knows. Given such uncertainty, panic is, alas, rational. A fiat currency backed by heterogeneous sovereigns is irremediably fragile.
Before now, I had never really understood how the 1930s could happen. Now I do. All one needs are fragile economies, a rigid monetary regime, intense debate over what must be done, widespread belief that suffering is good, myopic politicians, an inability to co-operate and failure to stay ahead of events. Perhaps the panic will vanish. But investors who are buying bonds at current rates are indicating a deep aversion to the downside risks. Policy makers must eliminate this panic, not stoke it.
In the eurozone, they are failing to do so. If those with good credit refuse to support those under pressure, when the latter cannot save themselves, the system will surely perish. Nobody knows what damage this would do to the world economy. But who wants to find out?
More from Paul Krugman, Doing their best to destroy Europe