Posted by: Dirk | February 10, 2012

The ECB finally gets it – or doesn’t it?

The FT’s Isabella Kaminsky likes this speech by Benoît Cœuré from the ECB and writes

Presenting, one of the best accounts of how the current crisis came about that we’ve read to date.

It comes courtesy of Benoît Cœuré, member of the executive board of the ECB, and should be required reading for every player in financial markets, if not every technocrat the world over.

Hmmm. Let me point out that Gary Gorton said the same thing before. I reviewed his book in July 2010. Here is an excerpt:

On p. 51, Gorton notes that banking relies on information-insensitive debt. In the banking sector, these are insured deposits. In the shadow banking sector, these are almost-safe assets with AAA, like government bonds and other very safe assets. However, some of these very safe assets turned out to be “bad apples”, since they contained mortgage-backed assets. However, it was impossible to find out which of the structured debt (CDOs, CDOs squared, SIV, …) contained them, leading to a lemons market.

Martin Wolf revisited work by Nouriel Roubini in 2007 and writes this:

The western economists concluded that emerging economies should adopt flexible exchange rates and modern, well-regulated and competitive financial markets. The Asians decided to choose competitive exchange rates, export-led growth and huge accumulations of foreign currency reserves. The question is whether the Asians need to change their choice. The answer, I believe, is “yes”.

That the ECB is now publishing speeches where they more or less summarize what has been known by good economists for years, is a sign of failure. The ECB’s best economist, I think, is – or better, was – Bini Smaghi, who left because Draghi became president and his chair was promised to a Frenchman (see this speech by Bini Smaghi). The ECB has been slow to understand, because it is unable to incorporate anybody from the academic world who is not following the DSGE line of research. Post-Keynesians have pointed out the weaknesses years ago. Apparently, now the ECB has the problem that it cannot jump to the relevant theories without a loss of face. And, by the way, there is still the official embrace of orthodoxy in the speech (my highlighting):

Finally, the debt crisis in the euro area has its roots in insufficient fiscal discipline and, even more importantly, in divergent productivity trends among the Member States. Such divergence sows the seeds of balance-of-payment imbalances and ultimately leads to a sudden stop of capital inflows into peripheral countries. Obviously, adequate policy responses will have to focus primarily on these structural issues.

That reminds of the Catholic Church and the rewriting of the holy scripture. You can move a bit to the left, a bit to the right, but you cannot abandon the true path at once. For an independent institution that should consider scientific thought to be its main pillar, that is disappointing.

To fast forward you a bit: I am sure that later this year the ECB will come around bit by bit and start looking at domestic credit supply growth in the member countries. However, I expect that it will fail to research the question why in Germany you have such a high and stable savings rate while real wages are falling. That would be the interesting story to investigate today. However, inequality will be part of the story, and the ECB will probably shy away from looking at that given the strength of Germany in today’s Europe. Central bank independence has been taken to mean the wrong thing. The ECB has insulated itself from academic critics, instead of insulating itself from politics. However, institutions can change.


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