Although the European Central Bank (ECB) has launched a larger-than-expected program of quantitative easing (QE), even its advocates fear that it might not be enough to boost real incomes, reduce unemployment and lower governments’ debt-to-GDP ratios. They are right to be afraid.
However, first the good news: anticipation of QE has already accelerated the decline of the euro’s international value. The weaker euro will stimulate eurozone nations’ exports — roughly half of which go to external markets — and thus will raise the eurozone’s GDP. The euro’s depreciation will also raise import prices and therefore the overall rate of inflation, moving the eurozone further away from deflation.
Unfortunately, that might not be enough. The success of QE in the US reflected initial conditions that were very different from those of Europe at the moment. Indeed, eurozone nations should not relax their reform efforts on the assumption that ECB bond purchases will solve their problems. However, even if these nations cannot overcome the political barriers to implementing structural changes to labor and product markets that could improve productivity and competitiveness, they can enact policies that can increase aggregate demand.
Illustration: YUSHA
To be sure, the major eurozone nations’ large national debts preclude using traditional Keynesian policies — increased spending or reduced taxes — to raise demand through increased budget deficits. However, eurozone governments can change the structure of taxes in ways that stimulate private spending without reducing net revenue or increasing fiscal deficits.
First, though, consider why QE’s ability to stimulate growth and employment in the US does not imply that it will succeed in the eurozone. QE’s effect on demand in the US reflected the financial-market conditions that prevailed when the US Federal Reserve began its large-scale asset purchases in 2008. At that time, the interest rate on 10-year Treasury bonds was close to 4 percent. The Fed’s aggressive program of bond-buying and its commitment to keep short-term interest rates low for a prolonged period drove the long-term rate down to about 1.5 percent.
The sharp fall in long-term rates induced investors to buy equities, driving up share prices. Low mortgage interest rates also spurred a recovery in house prices. In 2013, the broad Standard and Poor’s index of equity prices rose by 30 percent. The combination of higher equity and house prices raised households’ net worth in 2013 by US$10 trillion, equivalent to about 60 percent of GDP for that year.
That in turn led to a rise in consumer spending, prompting businesses to increase production and hiring, which meant more incomes and therefore even more consumer spending. As a result, real (inflation-adjusted) GDP growth accelerated to 4 percent in the second half of 2013. After a weather-related pause in the first quarter of last year, GDP continued to grow at an annual rate of more than 4 percent.
Thus, QE’s success in the US reflected the Fed’s ability to drive down long-term interest rates. In contrast, long-term interest rates in the eurozone are already extremely low, with ten-year bond rates at about 50 basis points in Germany and France and only 150 basis points in Italy and Spain.
So the key mechanism that worked in the US will not work in the eurozone. Driving down the euro’s US dollar exchange rate from its US$1.15 level — where it was before the adoption of QE — to parity or even lower will help, but it probably will not be enough.
Fortunately, QE is not the only tool at policymakers’ disposal. Any eurozone nation can modify its tax rules to stimulate business investment, home building and consumer spending without increasing its fiscal deficit, and without requiring permission from the European Commission.
Consider the goal of stimulating business investment. Tax credits or accelerated depreciation lower firms’ cost of investing and therefore raise the after-tax return on investment. The resulting revenue loss could be offset by raising the corporate tax rate.
Similarly, demand for new homes could be increased by allowing homeowners to deduct mortgage interest payments (as they do in the US), or by giving a tax credit for mortgage interest payments. A temporary tax credit for home purchases would accelerate home building, encouraging more in the near term and less in the future. Here, the revenue loss could be offset by an increase in the personal tax rate.
A commitment to raise the rate of value-added tax by two percentage points annually for the next five years would encourage earlier buying to get ahead of future price increases. The reduction in real incomes caused by the VAT increase could be offset by a combination of reduced personal income taxes, reduced payroll taxes and increased transfers.
Although eurozone members cannot adjust their interest rates or their exchange rates, they can alter their tax rules to stimulate spending and demand, with the appropriate policy possibly differing from country to country. It is now up to national political leaders to recognize that QE is not enough — and to start thinking about what else should be done to stimulate spending and demand.
Martin Feldstein is a professor of economics at Harvard University and president emeritus of the US-based National Bureau of Economic Research. He chaired former US president Ronald Reagan’s Council of Economic Advisers from 1982 to 1984.
Copyright: Project Syndicate
Concerns that the US might abandon Taiwan are often overstated. While US President Donald Trump’s handling of Ukraine raised unease in Taiwan, it is crucial to recognize that Taiwan is not Ukraine. Under Trump, the US views Ukraine largely as a European problem, whereas the Indo-Pacific region remains its primary geopolitical focus. Taipei holds immense strategic value for Washington and is unlikely to be treated as a bargaining chip in US-China relations. Trump’s vision of “making America great again” would be directly undermined by any move to abandon Taiwan. Despite the rhetoric of “America First,” the Trump administration understands the necessity of
In an article published on this page on Tuesday, Kaohsiung-based journalist Julien Oeuillet wrote that “legions of people worldwide would care if a disaster occurred in South Korea or Japan, but the same people would not bat an eyelid if Taiwan disappeared.” That is quite a statement. We are constantly reading about the importance of Taiwan Semiconductor Manufacturing Co (TSMC), hailed in Taiwan as the nation’s “silicon shield” protecting it from hostile foreign forces such as the Chinese Communist Party (CCP), and so crucial to the global supply chain for semiconductors that its loss would cost the global economy US$1
US President Donald Trump’s challenge to domestic American economic-political priorities, and abroad to the global balance of power, are not a threat to the security of Taiwan. Trump’s success can go far to contain the real threat — the Chinese Communist Party’s (CCP) surge to hegemony — while offering expanded defensive opportunities for Taiwan. In a stunning affirmation of the CCP policy of “forceful reunification,” an obscene euphemism for the invasion of Taiwan and the destruction of its democracy, on March 13, 2024, the People’s Liberation Army’s (PLA) used Chinese social media platforms to show the first-time linkage of three new
Sasha B. Chhabra’s column (“Michelle Yeoh should no longer be welcome,” March 26, page 8) lamented an Instagram post by renowned actress Michelle Yeoh (楊紫瓊) about her recent visit to “Taipei, China.” It is Chhabra’s opinion that, in response to parroting Beijing’s propaganda about the status of Taiwan, Yeoh should be banned from entering this nation and her films cut off from funding by government-backed agencies, as well as disqualified from competing in the Golden Horse Awards. She and other celebrities, he wrote, must be made to understand “that there are consequences for their actions if they become political pawns of
RSS