′Germans have to realize that a central bank has to provide liquidity′ | World| Breakings news and perspectives from around the globe | DW | 09.12.2011
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'Germans have to realize that a central bank has to provide liquidity'

Last year's Nobel laureate for economics tells Deutsche Welle that Germany must accept that the ECB has to act as a lender of last resort. But Dale Mortensen also supports Berlin's quest for fiscal unity.

graphic of euro and eu flag

Europe's banking crisis could have worldwide implications

Dale T. Mortensen won the 2010 Nobel Prize in Economics. He is a professor at Northwestern University in Evanston, Illinois and specializes in labor economics.

Deutsche Welle: As Europe is desperately trying to solve the ever-escalating debt crisis and save the euro, do you think the eurozone with all its current 17 members has a future?

Dale Mortensen: The association has been going on for a while. I don't know why there isn't a future for it. The problem of course has not been unanticipated. The idea of a monetary union without some form of fiscal union has been criticized by economists since the very beginning. The issue is now whether a smooth transition can be made that allows both a fiscal and a monetary union.

Dale Mortensen

Mortensen won a Nobel prize for market analysis

Actually if you go back in history this problem was solved in the formation of the US federal government in 1889. One of the major reasons why the confederacy of 13 or 14 years broke up was exactly on this issue. This is not a mystery historically.

At the heart of the problem solving efforts lies a fundamental rift between Germany and many others about the role of the European Central Bank. While Berlin opposes an active role of the ECB and want it to focus mainly on ensuring price stability, many other countries demand that the ECB should play a key role in the crisis an act as a lender of last resort. Who is right?

Again, history points out that the latter group was correct. Financial crises are a major source of disruption in the economy. We haven't had a financial crisis since the 1930s. I thought we learned in the 1930s that without a central bank that operates to prevent a collapse of the financial system you are going to have major problems.

So you would argue that the ECB should step in and act as lender of last resort?

I am perfectly sympathetic with Germany's position that that can't happen with further restriction of the fiscal sovereignty of the members. You can't have your cake and eat it too. But the Germans have to realize that the central bank has to be a central bank. It has to be available to provide liquidity when there is a financial meltdown. But, on the long term, a resolution of the common fiscal policy is also necessary. I think there is room for compromise here. On the one hand, those countries who think that the ECB should be doing more take a tighter stand on their fiscal sovereignty, while Germany, on the other hand, in return for that takes a more liberal view about what central banks are supposed to do.

In a joint letter German Chancellor Merkel and French President Sarkozy sketched out their plans to solve the crisis by imposing automatic penalties on countries that violate the deficit targets and by amending the EU treaty to create a fiscally integrated market. Will that suffice to calm the markets and solve the crisis?

There is a fiscal issue. But at the moment the real danger is that this crisis will lead to a liquidity crisis for the banks. Because the ECB isn't being monetarily neutral: When they are buying bonds they are sterilizing that purchase through reducing currency. But they don't realize that that's actually a major deflationary to operate in these times, putting pressure on the banks to increase their capitalization. And they are doing that by using the available liquidity. The market for liquidity in the real sector is drying up.

I was in Italy last week talking to several businessman and they are finding it almost impossible to acquire the working capital they need. That's going to have huge ramifications on the real economy. What's on the horizon is clearly a recession, if that process continues. The ECB is not being inflationary neutral. They are being quite the opposite, they are pushing toward a liquidity crisis and the result will be deflation not inflation.

President Obama called the continuing eurozone crisis the biggest threat to the US economy and urged European leaders to quickly find a lasting solution. What exactly is the impact of the eurozone crisis on the global economy and what are the consequences if Europe can't solve it quickly?

Then we're back in a recession, there is no doubt about it. The US is just barely starting to pull itself up by its bootstraps. But if there is a liquidity crisis in Europe that's going to spill over into the US just like ours spilled into Europe three years ago. That's going to dampen real activity again in the US. The US isn't going to pull the world out of this recession if it's caused by a banking crisis in Europe.

EU Commissioner Olli Rehn warned last week that the European Union had 10 days to solve the debt crisis or it would start to unravel. How much longer can the EU hold out without a convincing solution?

I don't know how much time there is. All I know is it's getting urgent.

Europe has prided and marketed itself and its model internationally as a highly developed social market economy. With high unemployment rates and severe and long-lasting austerity measures being enacted across the continent, is the European social market system doomed?

It's certainly under pressure under these circumstances. Right now we are in the middle of almost a panic, and what happens is the whole economy contracts. Real growth becomes negative and when that happens it makes fiscal problems worse. And you get this effort to cut back on expenditures and unemployment measures as we have had in the United States and you get a self-fulfilling downward spiral. That's what needs to be prevented.

And in this case, I think Europe can at least prevent going into that spiral again after 2008. The recovery from the 2008 recession is going to be long, and if we put another crisis on top that, we are talking about 10 years of no growth. Ten years of no growth can put tremendous pressure on the social welfare system in Europe - and also the United States, I might add. The priority for everyone concerned is to get the world economy growing again.

Interview: Michael Knigge
Editor: Nancy Isenson

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