How to unlock European investment beyond monetary easing
There is a growing consensus among economists that monetary policy has reached the end of its rope as the next recession looms, and so fiscal policy will need to do the heavy lifting this time. An example is Guntram Wolff of Bruegel, who blogs that finance ministers cannot rely on the central bank as the first line of defence against a recession as they did in the past. The ECB is indeed getting ready to loosen its monetary policy further even before the eurozone finds itself in a recession, but the reality of the situation, Wolff says, is that the ability of central banks to manage inflation and the business cycle has become very limited. He argues that eurozone finance ministers should change their mindset: automatic stabilisers are no longer enough because they tend to kick in after recession has already set in. Instead of reacting to loss of employment, eurozone governments need to be proactive and mitigate chronic underinvestment. Wolff proposes that governments include pre-designed contingent spending plans in their 2020 budgets, to be activated in case a recession materialises.
The problem with suggestions such as these coming from economists is that they ignore the legal and political constraints on policymaking. Attaching contingent spending plans is just not the way state budgets are made. Every single line item in a regular budget is usually scrutinised and criticised as part of the political process. Imagine a spending plan predicated on a hypothetical recession! We agree, of course, that large investments boost the economy and can now be funded at near zero or negative interest rates. But the problem the finance ministers face is not necessarily one of the wrong mindset, but fiscal rules that have been enshrined deep in the constitutional make-up of the EU and its member states, like the fiscal compact.
Wolff himself insists that the fiscal space in some national budgets is severely constrained, even at the current ultra-low interest rates. For this reason, when he argues that the European economy needs large public investments to green the European economy he turns his attention to the European Investment Bank, which could issue its own bonds on a large scale to fund the necessary green investments across Europe. We agree that here is perhaps where a change of mindset of the finance ministers, in their role of governors of the European Investment bank, would be most effective. To date, the EIB has been more concerned with preserving its AAA credit rating than with ensuring that the necessary investment that is not happening does happen. Then again, some necessary public investments may be nominally loss-making, and in that case the appropriate tools are deficit-funded grants, not bank loans.