The Belgian Peter Praet (Herchen, Germany, 1949) recently left that building that looks like a crossroads of Hogwarts from Harry Potter and the Death Star: the headquarters of the ECB. Praet, who was the solid chief economist of the legendary Mario Draghi at the ECB, is fascinated by Joe Biden’s ambition in the US, even with its associated risks. In a videoconference talk from Waterloo, he calls on Europe for the same ambition to get out of a nightmare trap: a double recession caused by the pandemic, combined with low inflation and negative interest rates.
Question. The EU is behind on vaccines. And although the first reaction was good, is it possible that it has fallen short of the stimuli in view of the reaction of the United States?
Answer. Washington has been extremely aggressive on both fiscal and monetary policy. On the fiscal side, Biden has set the bar very high on two dimensions: a strong stimulus to rebound in the short term, coupled with ambitious structural measures. He wants to fix problems that have accumulated for decades: inequality, health, education, public underinvestment, the environment. And it even wants to redo the international rules. It is not just a push like Obama’s: it is much more. It is not going back to the pre-Trump era: it is giving a reign to multilateralism, including international taxation. Biden wants to build on the momentum of his victory and the COVID crisis, and he knows his time is short.
P.Does another paradigm emerge?
R. Biden’s is a whatever it takes against populism: a shot of expectations so that society understands that there is a regime change. It is very different from the conservative revolution of the 1980s, but in its own way it is a shock to the system using maximum firepower. He knows he could lose most in two years, and so he wants quick, life-enhancing results for the average American.
P.That carries risks: the usual ashes, and some unexpected ones, speak of overheating and inflation.
R. Biden is being brave. Use everything you have, and maybe go beyond what you should. But it’s a calculated risk: You have two years to clip populism’s wings. Larry Summers and others talk about the risk of overheating, that risk is there. It is not small, but it can be manageable for the central bank. Perhaps the biggest problem is implementation: what is spent, and how, that money.
P.Europe has similar problems and is not so radical.
R.Europe is usually slow, but this time it has moved. The downside is that when the sense of urgency disappears, delays return, as we have seen with vaccines and the Recovery Fund. The ECB acted immediately and Brussels rightly suspended the Stability Pact and launched the Fund; the problems have come later. But people will not understand that delays accumulate: that takes its toll politically.
P.The size of the stimuli is very different.
R.The US is going to reach deficits of 15% of GDP in 2021 and 2022, and a debt of 130% of GDP. That can be allowed by the country of the dollar; If you spend that money well, you will increase your growth potential and you will not have problems. Biden has taken the opposite path of austerity. He chooses to take calculated risks, to invest, to spend, to pay checks in the face of the political risk of populism. Europe has not acted as it did in 2010, but somehow finance ministers believe that the implementation risks to spending all that money well are high. Hence the difference.
R.The risk of doing too little is greater than doing too much. Brussels did the right thing: countries now have to approve more ambitious plans. If Europe cannot present a global plan to match that of the United States, the shock of expectations that Biden has achieved is lost. That lack of ambition weighs us down. More needs to be done. With the vaccines we have already lost a trimester. The longer the crisis lasts, the more damage it will cause.
P.According to the IMF, in 2022 the US economy will be 6% above the pre-pandemic level; Europe will not have grown anything. Do you have to settle?
R.Well no. We can put up all the narratives we want. We can say that Europe has already done everything possible with vaccines; we can make up theories about the Fed’s reaction and the more ambiguous messages from the ECB. But the voters will not care: they will draw their conclusions. We need quick results, that people perceive that also in Europe we can be bold and ambitious.
P.Since January 2020 the Fed has bought 2.6 trillion in assets; the ECB, 320,000 million. What does that tell you?
R.At the start of the pandemic, the ECB managed to control the panic when risk premiums rose. And he was able to do so not only because of the size of the packet, but also because of his very clear messages: that “we will not tolerate fragmentation.” Furthermore, there was a strong signal from the EU to deal with the crisis asymmetries with the Recovery Fund. That combination was successful: when you have a clear commitment, you don’t have to spend a lot, as we saw with the whatever it takes by Draghi.
P.Christine Lagarde is receiving harsh criticism.
R.No problem until March 2022 – that’s the planned end of the pandemic buying program. But the transition to the post-pandemic scenario is not clear; Lagarde wants to come out with a complete package, but there are aspects of that package that are more urgent. The inflation target and clarity in future interventions in the debt markets are essential. Will the flexibility in asset purchases that we now have in this new framework be present, at least until all economies are normalized? That is key, particularly for Italy or Spain. And it will be difficult; it is politically sensitive and I fear the ECB is being timid.
P.Maybe because the hawks are circling overhead.
R.In a shock like this, monetary policy alone is not enough to drive inflation: fiscal policy is essential. The ECB has to be clear with communication. The message should be that monetary policy will remain very accommodative well into the recovery, as pressure on prices is likely to remain subdued. And it must be made clear that in the difficult years after the pandemic, where we are going to see recoveries at different speeds, the ECB will not tolerate fragmentation in the transmission of its policy. Simple and forceful messages.
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