Mervyn King’s Got A Point

Nils Pratley from The Guardian quotes Mervyn King from the Bank of England’s Inflation report press conference.

This phrase ‘lender of last resort’ has been bandied around by people who, it seems to me, have no idea what lender of last resort actually means, to be perfectly honest. It is very clear from its origin that lender of last resort by a central bank is intended to be lending to individual banking institutions and to institutions that are clearly regarded as solvent. And it is done against good collateral, and at a penalty rate. That’s what lender of last resort means.

That is a million miles away from the ECB buying sovereign debt of national countries, which is used and seen as a mechanism for financing the current-account deficit of those countries, which inevitably, if things go wrong, will create liabilities for the surplus countries. In other words, it would be a mechanism of transfers from the surplus to the deficit countries. That’s why the European Central Bank feels, and with total justification, that it is not the job of a central bank to do something which a government could perfectly well do itself but doesn’t particularly want to admit to doing.

I think it’s very important to recognise that there are circumstances where governments will try and put pressure on central banks to do things that they would like central banks to do in order to avoid their having to own up to the actions that they actually would like someone else to carry out. So I have every sympathy with the European Central Bank in this predicament …

The only circumstance in which looking at the data for the euro area as a whole has merit is in realising that actually the euro area does have the resources, if you were to regard it as a single country, to make appropriate transfers within itself. It doesn’t actually need transfers from the rest of the world. But the whole issue is, do they wish to make transfers within the euro area or not? That is not something that a central bank can decide for itself. It is something that only the governments of the euro area can come to a conclusion on. And that is the big challenge that they face.

Mervyn King has some good insights about global imbalances and I will right something on this sometime soon. I am glad someone came out so openly about the LLR function of the Eurosystem. In my view this comes with tremendous risks. The ECB is carrying out it’s Securities Markets Program by which it intervenes in secondary markets to prevent government bond yields from running away. It doesn’t seem to work, given that there is no explicit ceiling on yields. While it is true that the ECB has the powers to put ceilings on government bond yields, there is nothing preventing governments from taking advantage of this and postpone reforms. Neither is there any institutional means by which fiscal policies are coordinated and the competitiveness gap between Euro Area nations reduced. For the ECB to take such a drastic step, there needs to be some credible commitments from nations to achieve this.

Some proposals were given by Philip Arestis in an excellent article titled European Economic And Monetary Union Policies From A Keynesian Perspective, Ch8, A Modern Guide to Keynesian Macroeconomics and Economic Policies, ed. Eckhard Hein, Engelbert Stockhammer, Edward Elgar Publishing. (Publisher’s book website here)

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