The Problem With Europe
Ryan Avent notes today that the relatively tight monetary stance of the European Central Bank has been nearly ideal for Germany. But that's a problem:
The funny thing here is that the ECB is not Germany's central bank; it's the central bank for the euro area. Growth in Germany has hugely outstripped that of other euro zone economies over the past year, especially those on the debt-addled European periphery. Ireland's nominal GDP growth rate was sharply negative in GDP, which isn't the easiest environment in which to try to pay down debts. A monetary policy that's pretty good for Germany is terrible for most of the euro zone. And if the ECB tightens policy because of rising headline inflation, then it will be contracting while austerity programmes around the continent kick into high gear, again hitting peripheral countries the hardest. It's almost as if the ECB wants to make sure that struggling countries can't meet their debt reduction goals.
....Food and energy issues aside, euro zone inflation overall is unlikely to get out of hand thanks to falling price pressures around the periphery. But in Germany, faster growth is finally turning into some inflation. So what the ECB should do, both in order to facilitate recovery across the entire euro zone and to speed internal euro zone rebalancing, is let German inflation run a bit. But all indications are that the ECB sets policy based on conditions in Germany. And so premature and costly tightening looks likely.
Obvously this is bad for lots of Europeans outside Germany, but just to be selfish for a moment, it's probably also bad for us. It's already the case that growth in the world's developed countries is too sluggish while growth in developing countries is heating up dangerously. This is the "two track" recovery that people talk about, and while some of it is probably inevitable, the last thing we should be doing is making it worse. The euro-area economy, like ours, is big enough that sluggish growth there eventually affects the entire world, including us. Right now, Europe simply has too many growth problems to remain a slave to Weimar-era phobias about inflation creeping above 2%.