Is Eurozone preparing to abandon austerity and stagnation?

Angela Merkel, German Federal Chancellor speaking at the 3rd General Assembly of the ‘New Narrative for Europe’, an even held in the Academy of Arts (Akademie der Künste) of Berlin. (EC Audiovisual Services 01/03/2014).

Two unrelated at first reading, but in reality very closely connected developments, materialised this week. On the one side it’s the new fall of industrial producer prices in February 2014 (deflation), while on the other, Germany surprised everybody by adopting, for the first time in its economic history, a compulsory minimum wage, expected to be set at a generous €8.5 an hour. Those two developments point out that the threat of deflation in the real economy and a probable new cycle of recession have become real and have finally convinced Berlin that its austere ideology may lead to a catastrophe. The European Sting has reported on two occasions over the last few days, that the downwards sliding of nominal and real wages in Eurozone has become a major threat to growth and to job creation.

The Commission noted this downside risk in its Quarterly Review on Employment and Social Situation published on Monday 31 March. The EU’s executive arm observed there, that there is little improvement in the Eurozone economy despite some first signs of recovery. The fast falling inflation rate and the persistently high unemployment, at double-digit on the average and appalling country cases (Greece, Spain, Italy, even France) are bad omens for Eurozone’s future.

It’s the turn of the ECB to act

It remains to be seen if the Governing Council of the European Central Bank in today’s meeting will manage to overcome the resistance of the two German bankers among its members. The ECB, as every central bank in the developed world, has a moral obligation to support growth, usually with extraordinary monetary measures. The two German bankers though have so far vehemently resisted the idea of helping growth in the real economy with expansionary monetary policy. Obviously the two pay no attention to the needs of every other Eurozone country.

Now however, the Berlin government itself seems to change course and abandons the austere ideology and policy line with the introduction of legal minimum wage at €8.5 an hour. This might leave the German bankers of the ECB alone, probably without the support of Berlin, if they continue on the restrictive monetary policy path. It’s not the first time though that Berlin disagrees with the German members of ECB’s Governing Council. Chancellor Angela Merkel has openly disagreed with her appointees in ECB’s council, in critical occasions.

The most remembered case was in September 2012, when the President of ECB Mario Draghi reassured the world, that the “central bank will do whatever it takes to save the euro” and then he added “believe me it will be enough”. The two German members of ECB’s council, had disagreed with the “whatever it takes” expression, but Merkel finally backed Draghi, not her banking compatriots. Today the world expects Mario Draghi to announce a new reduction of interest rates and even to set a negative sign on the interest rate paid by the ECB on commercial bank’s deposits with it. Today this interest rate is zero. If it turns negative, it will act as an extra inducement for the banks to reduce their deposits with the ECB and use the money to accord more loans to the real economy, thus supporting growth.

Minimum wage to counter deflation

Coming back to this week’s developments, Eurostat, the EU statistical service, said that “In February 2014, compared with January 2014, industrial producer prices fell by 0.2% in both the euro area (EA18) and the EU282… In January prices decreased by 0.3% in both zones. In February 2014, compared with February 2013, industrial producer prices decreased by 1.7% in the euro area and by 1.6% in the EU28”. If this is not deflation then words have lost their meaning. Not to forget that in deflation, all values, real and nominal, are being decimated.

Seemingly, in view of this real threat, the German government decided for the first time to set a legal minimum wage. The strong presence of the Socialist Party leaders in the coalition government must have helped to this direction. The idea is that the extra income to be gained by more than 5 million Germans, who today gain from their labour less than €8.5 an hour, will directly find its way to strengthening the consumption demand. On top of that, the setting of a minimum wage is expected to push all labour incomes in this country upwards a bit. The positive repercussions are expected to touch the entire Eurozone, due to the large size of the German economy.

If the ECB also changes its course and starts introducing extraordinary monetary measures in support of growth, this will mean that Eurozone is definitively abandoning the austere stagnation zone. Hopefully in such a case, Eurozone will be gradually steering out from austerity in every direction, incomes, the fiscal sector and the monetary policy.

Trending now: