ECB starts large scale ‘Quantitative Easing’

by Julia Chladek, German first year student of BA International Relations. Editor of Europe section.

Having been thrown back and forth by the challenges of the Euro crisis during the past few years, the European economy, especially in the south of Europe, is still stagnating and facing the threat of deflation.

The normal approach you would expect from a Central Bank aiming to boost the economy is probably simply lowering the interest rate, thus allowing banks to give more loans to firms and hence attract new investments. So far so good.

But what if the interest rate has already been close to 0% for quite a long time without achieving the desired effect? Apparently broader and more profound measures have to be taken.

The instrument the European Central Bank recently chose as a response to that is known as ‘Quantitative Easing’, which in fact means that the ECB is about to buy government bonds worth 1140 billion Euro from banks and large-scale investors in order to make new loans available to the economy.

How are they going to be able to do that, you wonder?The answer is simple again: They’re the Central Bank. They’ll just start the printing press.

Certainly the process is not as simple and not as bad as it seems at first glance.

The ECB’s main aim is to prevent deflation, a mechanism even worse than inflation and difficult to escape once it has started, through boosting the economy and increasing aggregate demand. The controversially debated idea of predominantly buying bonds from crisis countries of the Eurozone has indeed been abolished. The ECB will choose which bonds to buy with regard to the capital share of the respective countries – which effectively means that it will buy German bonds as well as and to a larger extent than Spanish or Italian bonds.

Greece – and this may surprise many critics – is meanwhile completely out of the game. Its bonds are not rated as ‘secure’ and are therefore not allowed to be part of the Quantitative Easing process at the moment.

Not as much to worry about as it seems at first glance then. But still, Draghi’s policy decision is not for nothing subject of discussion.

The first and most obvious consequence of increasing the money supply through simply starting the printing press is, of course, inflation. The euro has already experienced a vast devaluation and is currently facing the lowest exchange rate since 2003. Quantitative Easing is not very likely to improve that.

Additionally, if the constantly low interest rate was so far not able to convince firms to take loans and make investments it is questionable if Quantitative Easing will. In general this decision asks the question in which direction the ECB is going?

The combined effect of low interest rates and Quantitative Easing especially devaluates the kinds of bonds life insurances and related companies hold their assets in. And this, broken down to the individual, in fact means people loose money they were calculating with as – for example – retirement provisions.

Shouldn’t the ECB be on the side of the savers instead of the borrowers? What we have to ask ourselves is how far we are willing to go for the European idea. Are we willing to risk inflation and personal losses for the good of the whole European economy?

Many, for example in Germany, who are currently losing money while experiencing a properly working economy on their doorstep obviously say no. And that is comprehensible. The mistakes indeed have been made earlier when precision of economic examinations and proper checking of criteria where sacrificed for the realisation of a political idea: the European Union. It is not fair to deliver the consequences of these mistakes on the backs of individuals losing their savings. But it is equally not fair – and politically not possible – to turn a blind eye on one’s responsibility and the economic requirements.

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