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November 21, 2019

Brussels warns Paris and Rome about not using low interest rates

The European Commission published its opinion on the draft budgets of all member states, dividing countries into two categories depending on  whether they complied or failed to comply with the fiscal targets. Some of those that stayed within the rules could have increased spending, the Commission says. But, as ever, the emphasis was clearly on the eight member states at risk of non-compliance. Four among them - France, Italy Spain and Belgium - were singled out for not having taken enough advantage of the favourable interest-rate conditions to reduce their debt. The latter two still have no new government in place.

France is used to getting a letter from Brussels to warn about a deviation from fiscal targets. Paris usually shoots back with a primacy-of-politics argument. Remember that Emmanuel Macron started off by wanting to deliver on the fiscal targets as a way to build trust with Germany, so that Germany would support him in his eurozone agenda? Those days are long gone. His ambitions for the eurozone have been clipped. Relations with Germany have cooled and the gilets jaunes and the grand débat forced him to prioritise old-fashioned politics. Pierre Moscovici started out as commissioner in 2014 with a warning letter to his home country, and is finishing with yet another letter to Paris. In 2014 it was the high fiscal deficit and lack of structural efforts. This time it is the high level of public debt and France's failure to reduce the deficit during good times. French public debt is currently just below 99% of GDP. The Commission is expecting it to worsen slightly next year. The French government had initially promised to cut debt levels by 5pp during Macron's presidency. Now it looks like it is going to be less than 1pp. 

Italy is the other large country that received a warning about its debt-to-GDP ration, of 136%. Brussels is worried that its high debt levels make Italy vulnerable to changes in debt issuance costs. Once the era of low or negative interest rates is over, Italy could face trouble. But the current era could last a while and, for so long as it does, it will be difficult to get a political consensus to pay down debt when the economy is performing poorly. Compared to last year, Brussels is much more relaxed about Italy. After Salvini's threats the current Five Star coalition with the Social Democrats is seen as moderate and reliable. The verdict is thus also a relief. No additional measures are asked of Rome this year. The measures Italy had to take last year will only be assessed in 2021.

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November 21, 2019

What’s behind Thomas Mayer’s crypto-currency

We once joked that the reason the economics profession has a problem with crypto-currencies was the lack of employment opportunities for economists. The serious argument is that a digital currency would act like a gold standard on steriods. 

The debate has since moved on. Conservative economists have discovered digital currencies as the ideal tool to destroy the fiat money system. 

Thomas Mayer makes the case for turning the euro into what he calls a stablecoin - a digital currency backed by the ECB’s existing assets. 

We make no secret of our deep scepticism of what we consider a modern version of the gold standard. But we note with interest that behind this proposal lies a political deal that might be used in a different context as well. This is acceptance of the full monetisation of the ECB’s existing sovereign bond holdings in exchange for a different kind of monetary policy in the future. It is probably best to distil that particular idea from Mayer’s concrete proposal.

The critical element of Mayer's proposal is that the increase in the money supply would be algorithmic, hard-coded into the system. For example, the system may expand the money supply on the basis of an economic indicator like economic output or, as Mayer suggests, potential output. The critical point is that there would be no political influence. 

Since all of this would require treaty change, we see no chance whatsoever that politicians would agree to a policy that effectively hands over the key to an algorithm. 

But let us indulge in this scenario a little while further. If that system had been in place in 2010-2012, some eurozone member states would have defaulted on their debt. The result would have been an unimaginable banking crisis which the central bank would not have been in a position to feather. It is our sense that the eventual failure of the eurozone may be the intent behind of such a hard-money system. If your aim is to maintain the eurozone with its existing perimeter, such a system is unlikely to deliver it.

But this observation of ours will not end the debate. Crypto-currencies have given the monetary conservatives a tool they lacked before. A return to the gold standard was never realistic, but a crypto-currency has some intrinsic attractions. Some of them are even approved of by mainstream economists. Ken Rogoff, for example, favours crypto-currencies as a tool against money laundering. 

Mayer is a former chief economist of Deutsche Bank and still a major figure in the German economic and financial scene. We are not sure whether he speaks for a majority, but we should not underestimate the degree of support he has - at least domestically.

We reported yesterday on a survey showing a dramatic loss of public confidence in the German government, but also in the institutions of the state. A fiat money system is a social contract, backed by trust. The ongoing debate about Mayer-style crypto-currencies reflect the loss of trust in the system. We have taken issue time and again with the German narratives of money and especially of negative interest rates. But we have to acknowledge that this loss of trust exists, and that this kind of proposal feeds on that discontent.

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