The ECB’s recent dalliance with QE-light is macro-economically irrelevant. For a long while we have been arguing (see Policy 3 of the Modest Proposal) that it is high time that the ECB buys en masse EIB bonds, thus enabling the EIB to issue new bonds as part of a European Recovery Program; an investment drive that will mobilise the glut of idle savings, neither adding to public debt nor inflating financial assets (or, indeed, the fear of fiscal transfers from the core to the periphery). It is the optimal strategy for defeating deflation and whipping up growth without inflating asset prices. It was with pleasure that we recently read Guntram Wolff’s article which seems to endorse this proposal.
The idea is simple:
- Europe desperately needs growth-inducing, large-scale investment.
- Europe is replete with idle cash too scared to be invested into productive activities, fearing lack of aggregate demand once the products roll off the production line.
- The ECB wants to buy high quality paper assets in order to stem the deflationary expectations that are the result of the above.
- The ECB does not want to have to buy German or Italian or Spanish assets lest it it accused of favouring Germany or Italy or Spain etc.
Here is what the ECB could do to achieve its objective while overcoming both its ‘operational problem’ and the ‘macroeconomic concern’ above:
- The European Investment Bank (EIB) and its smaller offshoot the European Investment Fund (EIF) should be given by the European Council the green light to embark upon a Pan-Eurozone Investment-led Recovery Program to the tune of 8% of the Eurozone’s GDP, with the EIB concentrating on large scale infrastructural projects and the EIF on start-ups, SMEs, technologically innovative firms, green energy research etc.
- The EIB/EIF has been issuing bonds for decades to fund investments, covering thus 50% of the projects’ funding costs. They should now issue bonds to cover the funding of the Pan-Eurozone Investment-led Recovery Program to the full; i.e waving the convention that 50% of the funds come from national sources.
- To ensure that the EIB/EIF bonds do not suffer rising yields, as a result of these large issues, the ECB ought to step into the secondary market and purchase as many of these EIB/EIF bonds as are necessary to keep the EIB/EIF bond yields at their present, low levels.
The merit of this proposal is that, essentially, it recommends that the ECB enacts QE by purchasing… eurobonds; as the bonds issued by the EIB/EIF are issued on behalf of all European Union states. Thus, the operational concern about which nation’s bonds to buy is alleviated. Moreover, the proposed form of QE backs productive investments directly, as opposed as to inflating risky financial instruments.
Indeed, as Guntram Wolff argues, in his article “…borrowing by the EIB has no implications in terms of European fiscal rules. It is recorded neither as new debt nor as a deficit for any of the member states, which means that new government spending could be funded without affecting national fiscal performance.” Additionally, Wolff offers a convincing answer to the question of where the EIB will find shovel-ready projects worth hundreds of billions of euros to fund: “It will be impossible to define new and sensible European projects worth €200 billion per year. Common projects such as the European energy union will need more time to be precisely defined. As a result, the bulk of investment now will have to come from national policymakers. In part, this means that existing infrastructure projects that are supposed to be financed from national budgets could be funded by the EIB. By removing some of the burden from national budgets, the current decline in public investment could be reversed.”
This is eminently sensible. A European Recovery Program of such magnitude would, suddenly, remind the EIB that it has the (hitherto unrealised) capacity to become macroeconomically significant; to endogenise investment risk while reducing it; to diminish the riskiness of the investment projects that it takes on simply through playing a larger role in Europe’s recovery (and therefore stemming the forces of deflation that beget more frequent bankruptcies and higher risks).