German inflation to rescue euro economy?

March 5, 2012

With the ECB’s second cheap money flood in three months coursing through European banks and financial markets and the possibility at least of a further interest rate cut in offing, the relief in Europe’s austerity-wracked periphery is palpable. But what of the impact on the relatively buoyant “core” in Germany, the bloc’s largest economy and super-competitive export engine? Darren Williams at money managers Alliance Bernstein reckons  German inflation is being cooked up by this super-easy ECB money, coming as it does against a backdrop of  relatively brisk German credit growth and house price inflation there of some 5.5% last year which is “positively explosive by German standards”.













This is the flipside of pre-crisis euro zone problem with “one-size-fits-all” monetary policy. Before 2007,  sluggish  German growth meant ECB policy was kept far too loose for the faster-growing  peripheral economies who then generated credit and inflation-fueled booms that boosted real-estate prices, private and public sector debts and eroded competitiveness.  Now, monetary policy appropriate to a euro-wide slowdown fueled by the hobbled periphery looks far too too loose for Germany.

However, Williams posits that if Germany can tolerate an effront to its anti-inflation psyche then this move could help rebalance skewed intra-euro current accounts by boosting German domestic demand for the exports of its troubled euro neighbours while curbing the super-competiveness of German exports flooding other euro economies and undermining producers there. That’s not the way many in Germany want the rebalancing to happen clearly. But even the most ardent hawks in Berlin probably now acknowledge that endless austerity and economic contraction in its nearest neighbours or the sort of financial implosion likely from a euro collapse would not be in Germany’s best interests either. So, a little compromise perhaps.

The key of course is the extent to which German wage rises take hold and the following graphic on euro area unit labour costs, thanks to Reuters’ Scott Barber, illustrates the scope for more  “convergence” of what has already begun since the onset of the global credit crisis in 2008  — strong rises in German and French labour costs compared with declines or flattening elsewhere. Perhaps the anomaly here is Italy, where labour costs are still behaving like the Franco-German core while its broader economy and debt markets have been signalling the opposite.



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This whole healing-by-inflation idea is just utter nonsense. Some counterproductive facts should be obvious to everybody, but are conveniently ignored by the pundits:

-In a common currency zone, it’s very difficult to limit inflation to one nation. If there’s a surplus of liquidity, it will rise the tide everywhere, with only minor differences.

– You can’t simply ignore the preferrences of the voters. German people will protest inflation much more vehemently than folks in the South, who are more accustomed to that. And German politicians probably are more efficient than those in the South in fighting inflation. So, the nations in the South will be hit harder, which is totally the contrary of what shall be achieved!

– Wage increases always lag behind inflation! So, the short term effect will be that the purchasing power of the majority of the population is REDUCED. It doesn’t matter that the nominal GDP will rise when actually less products are sold (at higher prices) and thus the real output decreases, with negative consequences for employment. Inflation doesn’t increase domestic demand, that’s just an optical illusion.

– Maybe that decrease of the purchasing power of the incomes can be compensated by the people spending more of their savings instead, which will constantly lose value. But a reduction of the saving rate, especially among the lower and medium incomes, isn’t socially desirable at all! Even more money concentrated in the hands of the 1%, while the 99ers have no reserves at all for hard times? Idiocy.

Not a single one of those pro-inflation hawks ever presents a thorough, cohersive picture of the consequences. They know dang well why – because it would show that their great idea has many negative consequences! That cure could easily be worse than the desease. There simply is no magic recipe, improvement can only come through tough work on reforming the nations. Ignore all the snake oil dealers!

Posted by Gray62 | Report as abusive