Austerity and Growth Are Contradictions: Tell the NYT

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Tuesday, 20 September 2011 04:58

The NYT missed much of the story in its report on the likelihood of a default by Greece. One of the main factors exacerbating the plight of Greece and other heavily indebted countries in the euro zone is the relatively contractionary policies pursued by the European Central Bank (ECB), ostensibly to fight inflation.

If the ECB had a more expansionary monetary policy, the additional growth would increase tax collections in Greece and other countries. It would also reduce payments for unemployment benefits and other transfer programs.

In addition, an easier monetary policy would reduce the interest burden on heavily indebted countries. For example, if the ECB followed the example of the Fed, the Greek government would be able to borrow at a near zero interest rate.

Finally, if the ECB allowed the inflation rate in the euro zone to rise to 3-4 percent it would facilitate the necessary adjustment process that would allow Greek goods and services to become more competitive in the euro zone. If prices and wages in the euro zone were rising at a slightly faster pace then Greece can improve its relative position by keeping its wage and  price growth near zero.

By contrast, with very low inflation, wages and prices in Greece must actually decline for it to increase its competitiveness. It is very difficult and costly to bring about this sort of deflation. It usually requires many years of high unemployment. 

The NYT neglected to mention these ways in which the policies of the ECB have contributed to the crisis in Greece and other heavily indebted countries.