Central Banks Hide Their Incompetence

central banks incompetenceEuropean Central Bank

The cyclical recovery was gathering both pace and geographical breadth, thanks in part to the stimulus efforts of central bankers, the European Central Bank president said, adding that even if inflation remained low, the euro area economy was “gaining ground”.

Maurice Obstfeld, chief economist of the International Monetary Fund, said in an interview with the Financial Times shortly afterwards: “We have multiple engines of growth propelling the world economy, and that is something that makes the momentum much more sustainable. It is a synchronized recovery, broader by far than anything we have seen for a decade.”

Maurice Obstfeld goes on to say:

“It is a cheap excuse for treasuries and others to say central banks can deal with it,” said Mr Obstfeld. “You actually need investment in people; you need real policies, not monetary policies.

“So central bankers have to be very clear about the limits of what they can do.”

From outside observers we read:
…However, I would argue that bond shortage is not the only reason the European Central Bank should and probably will announce a reduction in the pace of its asset purchases at the October meeting. The stars lighting the path to normalization are robust growth and higher core inflation. Over the past few quarters, growth has been well above trend, allowing spare capacity to be absorbed more quickly than most anticipated.

Alternatively, this:

For the first time in a decade, the world’s major economies are growing in sync, a result of lingering low-interest-rate stimulus from central banks and the gradual fading of crises that over years ricocheted from the U.S. to Greece, Brazil and beyond.

I really don´t know where these views come from. Let us examine the recent history of the two big economic blocks: the US and the Eurozone (EZ).

What I come up with is very different from the implications of the paragraphs above.

In the first chart, we clearly see the “footprint” of Trichet´s folly, with the EZ getting into a double dip recession in 2011 after Trichet raised rates twice.

Draghi´s “impulse” was sufficient to get EZ real growth to turn up. Notice, however, there was no recovery, even towards the lower output level obtained after the generalized “mistake of 2008”.

The US, on the other hand, was not a “victim of Trichet´s folly”. Early adoption of QE was sufficient to keep growth evolving along a lower trend path. However, the “taper” which began almost three years ago appears to be pushing real growth lower.

The growth charts below help us understand why central banks are “satisfied”. Both the US and EZ are growing in tandem. Since, given their inflation targeting experience, bygones are bygones, they don´t care about the depressed levels that their economies are functioning. Note that compared to the US, the EZ economy is “terribly depressed”.

With both economies growing at comparable rates, the Fed and the ECB feel they have done all they could. What a cop-out!

About the Author

Marcus Nunes
João Marcus Marinho Nunes is a partner of Phynance Estratégias Quantitativas e Investimentos and a professor of Economics at Fundação Getúlio Vargas in São Paulo, Brazil. He also blogs here: http://thefaintofheart.wordpress.com/