Europe has received another dose of stimulus. However, the latest medicine by itself would not bring life to an economy that over the past six years has slid from crisis to crisis.
Though the European Central Bank (ECB) surprised markets on Thursday with the broad thrust of its stimulus measures, most economists think the recovery in the 18-country eurozone is set to continue to lag behind its counterparts — in particular, more dynamic economies such as the US — for years to come.
Several eurozone countries are still grappling with high public debt that pushes them to hold back spending that would otherwise help growth — new roads and schools, for example. The No. 2 and No. 3 economies, France and Italy, are reluctant to reform their economies to make it easier for companies to do business and hire.
Low inflation threatens to turn into a fall in prices — something that could hurt consumer spending as shoppers wait for prices to drop further. The eurozone economy is expected to grow slowly at best, after not expanding at all in the second quarter.
Unemployment is proving hard to bring down — at 11.5 percent it is only marginally down from the peak of 12 percent seen last summer.
That is why the central bank came up with another rescue package just three months after its previous one in June. As well as cutting its benchmark interest rate from 0.15 percent to 0.05 percent, a new record low, it announced a program to buy bundles of bank loans that aims to stimulate bank lending to businesses and households. Details of the program — in particular, its size — remain to be filled in.
Few economists think the latest measures alone can heal the economy. As European Central Bank President Mario Draghi keeps saying, the central bank can only do so much. Governments need to make reforms — and spend more, within the limits the EU puts on deficits.
“The truth of the matter remains this: no amount of ECB ‘action’ will change the grim outlook for the eurozone if politicians do not confront the need for, and implementation of radical reforms,” ADM Investor Services International Ltd market strategist Marc Ostwald said. “In reform terms France and Italy’s woeful economic performance makes the need for reform extremely acute, even if there is scant historical evidence to expect any meaningful progress.”
In the end, it is all about jobs. Employers are reluctant to hire when they know they cannot adjust their workforces for the ups and downs of the economy. Starting a business in Europe can mean delays for paperwork and permissions. Taxes also tend to be high in Europe.
Efforts to shrink deficits removes demand at a time when consumers, banks and businesses are trying to work off debt.
“The long-term cohesion of the euro area depends on each country in the union achieving a sustainably high level of employment,” Draghi said recently. “Given the very high costs if the cohesion of the union is threatened, all countries should have an interest in achieving this.”
As governments delay reforms, and Germany insists on fiscal restraint over boosting growth, the central bank risks being asked for help once again. That means it might have to use the last weapon in its armory — creating a massive amount of new money to buy large amounts of government bonds.
The stimulus the central bank announced on Thursday is set to create new money, but on a smaller scale. The market for the assets it will buy — asset-backed securities, which are essentially bundled bank loans — is not as large as that for government bonds.
Draghi confirmed the central bank had discussed buying government bonds — as the US Federal Reserve and Bank of England have done.
Such a program, commonly referred to as quantitative easing (QE) can drive down market interest rates, making it cheaper for businesses and consumers to borrow.
Some analysts think the central bank would not adopt the measure. However, the 24 members of its governing council might feel they have no choice if the economy does not improve.
“We still believe that the ECB will have to put its remaining reservations aside and take the plunge into a full-blown QE program later this year,” Capital Economics chief European economist Jonathan Loynes said.
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