Le Monde, France

Trans-Atlantic Contrasts

By Jean Pisani-Ferry

Translated by Bethany Kibler

February 05, 2008

France - Le Monde - Original Article (French)

In less than ten days, the American Federal Reserve (FED) lowered interest rate by 1.25 points; in barely two weeks, Democrats and Republicans agreed on a 150 billion dollar economic stimulus plan – a plan no one was even talking a month ago.  In Europe, the Central European Bank (BCE) maintained its rates unchanged, and the Commission continues to urge governments to reduce their deficits.  Hyper-action on one side of the Atlantic, immobility on the other.  Never has the contrast been so clear.

The disparity is partly situational.  In the United States, signs of recession are proliferating:  the number of homeowners dropped by a million, unemployment is up and hiring is down, 2007’s economic growth was almost zero, and household spending is mired in pessimism.  Among the Eurozone – European countries who have adopted the Euro as their currency – real estate is a localized problem, unemployment continues to shrink, economic growth has slowed but not stalled, and although households are wary, businesses remain more optimistic.  Immediate threat on the one side, apprehension on the other:  this justifies the differing policies.

However, this is not the core of the issue.  Indeed, apart from any comparison, it s the vigor of the American response that so stuns.  Why, on the 21st of January, did the FED choose a federal holiday to lower its interest rates?  Why did it do it again a week later?  Why did FED chief, Ben Bernanke, support the budget rebates?  Even before this, the central bank ran the risk of trussing up public anxiety by letting it be believed that the FED possessed particularly alarming information.  What are the reasons for all of this?

To explain themselves, the FED directors have developed a sophisticated argument.  One of them, Frederic Mishkin, recently explained that the role of the FED is not simply to manage the cycle, but also, when the economy or finance are out of control, to avoid extreme situations.  Alan Greenspan, Bernanke’s predecessor, developed this concept – according to which the central bank acts as a safe guard assurance against macroeconomic risks – and applied it in 2003 to prevent the spread of the Japanese deflation.

Greenspan’s successors are more precise.  They explain that, when the economic situation deteriorates, one can no longer treat high and low risks symmetrically.   They say it is necessary to make provisions for the latter, even if they are less probable, because their materialization could bring grave consequences.  For Mishkin and for Bernanke, it is better to have a 50 percent chance of a little inflation, than a 10 percent chance of economic depression.

The European outlook is very different.  Jean-Claude Trichet and peers uphold calm as the chief virtue of the central bank.  They do not see their role as that of a principle safeguard, whose mere presence of which could incite the public to act imprudently.  They underline that by dint of well-intentioned interference, the monetary institution runs the risk of being the source of volatility itself.  They largely do the same on budgetary matters, where Europeans tend to doubt the ability of governments to act in good conscience and so prefer, in that light, that they abstain from interference.

For Americans, to guarantee the boat’s stability means being ready to jump on the mast and change the direction of the sails at any time.  For Europeans, on the contrary, it is more important to avoid using too much sail and to minimize movements that could contribute to the boat’s capsizing.   These different philosophies are surely the result of differing historical experiences, one marked by the memory of the Great Depression, the other by the memory of inflation.  However, the philosophical differences result largely from the nature of the institutions themselves.

This is clear in budgetary matters:  in Europe, budget decisions belong to the States, and the role of the Union is relegated to curbing deficits and observation at a distance.  There is no European equivalent to a Federal budget, and no procedure is in place that could coordinate a joint economic stimulus plan.

This is even true in monetary matters.  The American monetary policy committee has 12 members – seven appointed by the executive and five regional representatives – and decisions made by majority.  It is an anxious moment, capable of creating abrupt policy reversals.  The European equivalent has 21 members – of which 15 are Eurozone country representatives – and proceeds by consensus.  Naturally, its decisions are more measured and gradual.  Certainly, in fall 2007, the BCE very promptly responded to apparent tensions in the markets.  But it was specifically within the technical domain, within which a decision is sensibly more centralized than in the field of interest rate fixation.

The real question for the Europeans is not so much if they should follow in the steps of the Americans.  Today’s situation does not require it.  It is not a question of instructing the BCE.  From its inception, the BCE has committed many fewer pilot errors than national governments.  It is really a question of knowing if, if need be, the Eurozone would have the will and the ability to push a resolute action in order to ward off grave economic risks.  The question applies at least as much to the States themselves as it does to the BCE.  Fortunately, there’s plenty of time to think about it.

Jean Pisani-Fery is an economist and director of Bruegel, a center for research and debate on European economic policy.