Friday, October 19, 2012

Is the Eurozone Crisis Bottoming?

In ECB President Mario Draghi's words: "The worst is over for the EU crisis, but risks remain!". He was refering to the low inflation registered in the EU region. As long as the inflation is kept below 3%, the ECB is happy at keeping the benchmark refinancing rate and the deposit rate unchanged at 0.75% and 0% respectively, and the ultra low interest rate will spur economic growth in the EU.

However, not many economists share the same view with Draghi. 

A London professor of economics, Costas Lapavitsas said:
"This misleading impression has been created by Mario Draghi of the ECB, who announced that he will lend freely to countries in trouble, driving interest rates down. There has been virulent opposition, led by the Bundesbank. For conservative German opinion, Draghi is the devil of Goethe's Faust, luring Angela Merkel into a deadly pact of inflation. Also for ECB lending to materialise, a country must accept tough austerity conditions. Which European politician will do that?"

Indeed, the austerity condition has already caused social unrest in Greece, Spain and other EU countries to go on strike in the streets as spending cuts tend to affect lower income groups, especially when the cuts are to welfare payments.

In addition, the fiscal union is not easy to realised as that would means centralised control of national budgets and tax policy in the Eurozone. Germany is the main driver behind the fiscal union as they want to make sure other EU countries do not overspend if they want to use the German's money! 

We have already seen at the current European Summit that France and Greece are opposing the idea of fiscal union, they want "solidarity" to balance the budget austerity demanded by Germany. 

Hence, the actual solution is not whether the interest rate is low enough to stimulate growth in the economy, it's the "confidence" that matters most. In order to judge whether the Euro crisis is over depends on how each of the EU members cooperate with one another, minimise their conflicts, and to reinstate the confidence back to the economy. 

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