Europe Should Stop Its Anti-Deflationary Policies

The European Central Bank （ECB） has re- cently issued a package of measures to ease its monetary policy. These actions include cutting main interest rates in the eurozone to zero， reducing the deposit rate further from minus 0.3 percent to minus 0.4 percent， expanding quantitative easing （QE） to 80 billion euros a month from 60 billion euros， and purchasing more assets by expanding its money printing program.

These “gifts” from the ECB will affect not only the eurozone， but also the global market. The ECB should change its anti-deflationary policies. Otherwise by prescribing too much“medicine” in the form of its easy monetary policies， the economy in the eurozone may overdose， which would have dire consequences for the global economy， too.

The ECB has racked its brains to lift the European economy out of its crises and address deflation. It has launched multiple QE measures including a bond-buying program， a securities markets program， a general longterm and targeted long-term refinancing operation， and has even cut its interest rates so much as to put them into negative territory. The ECB has tried in every way to ease its monetary policy.

The eurozones poor economic performance has pushed the ECB to ease its monetary policy further and further. Even so， figures have shown that their economy has once again fallen into stagnation. In February the consumer price index （CPI） in the eurozone fell by 0.2 percent year-on-year， the lowest in 12 months and far below expectations. In January， the index rose by 0.3 percent.

In addition， the eurozones core inflation rose by 0.7 percent in February from 1 percent in January， reaching the lowest figure in 10 months. The unemployment rate also hit 10 percent. The ECB consequently decided to further ease its monetary policy and continue stimulus measures to boost the economy and maintain the inflation rate below—but close to—2 percent， which is the primary objective of the ECBs monetary policy.

These measures are really good news to those who invest in risk assets such as investment-grade corporate bonds， the sovereign bonds of eurozone periphery countries， bank credits and stocks. However， Mario Draghi， President of the ECB， seems to be more concerned about how to make investors believe that the economic recovery will continue in the eurozone.

When announcing a package of measures on March 10， Draghi revised the outlook for economic growth of 2016 in the eurozone down from 1.7 percent to 1.4 percent， and said that interest rates would likely remain at present or lower levels for several months.

Draghi must be well aware that， since the start of the global financial crisis in 2008， the results of the ECBs monetary policy have not been satisfactory. Although the ECB has used various measures， the European debt crisis has only worsened rather than subsided， and the eurozone has fallen into debt and austerity quagmires. Although the debt crisis has been slightly alleviated since 2015， Europes economic recovery is still weak， and deflation risks have even intensified.

A continuous negative interest policy is dangerous， which will only encourage financial bubbles and impede economic growth in the eurozone. It will also lead to competitive depreciation in the global market and make the current global financial stability even more fragile.

Even after all of the above mentioned policies have been put in place， the eurozones fatal weakness still remains—due to the conflict between a unified central bank and monetary policies as well as the independent fiscal policies of various countries， the eurozone is unable to get out of its debt crisis. Fiscal austerity， in the view of German Chancellor Angela Merkel， is the only correct solution to the problem， and the economic recession brought about by austerity is the price that Europeans must pay to correct their previous mistakes.

However， austerity may only bring more serious problems. The idea of making the ECB assume all the responsibilities involved in alleviating the economic stagnation and deflation in the eurozone has been proved wrong. Monetary policy alone is unable to solve the crisis.

The essential reason for the economic stagnation in the eurozone is due to the structural imbalance in the economy. Management policies such as the ones currently being enacted are also unlikely to get the economy out of its quandary.

The ECB and the European Commission must determine future policies more strategically to secure a more stable and healthy economic recovery. Here are three suggestions：

First， the eurozone should further enhance its structural reform， especially to determine the key areas and guiding principles of the reform. It should also establish a combination of indicators to better evaluate and monitor the structural reforms occurring within eurozone countries， and improve the supply structure to better satisfy the demand. By doing so， it will optimize the economic structure and ensure adequate economic transformation and sustainable growth.

Second， the ECB must focus on restoring the transmission mechanism of its monetary policy. The global financial crisis and the European debt crisis have made the European financial market gone awry， and the monetary and interest rate transmission channels have also been damaged.

The ECB must therefore improve the operation of those channels immediately. It can change the interest rates in the money market and sovereign bonds market by controlling the official interest rates—which would ultimately affect retail interest rates—or the lending and borrowing rates of commercial banks. The role of the banking union in the European Union should be played to its full extent， so that banks will be more efficient in their execution of the monetary policies.

The ECB should also， through bank stress tests， restore or enhance the private sectorsconfidence in the health and balance sheet quality of commercial banks， and guide more capital from private sectors to the banking industry and encourage banking capital to flow to the real economy. It should give assistance to commercial banks in efforts to write off non-performing loans as soon as possible. If the above measures provide tangible effects， the economic recovery in Europe will stay on course.

Third， the eurozone countries must strengthen cooperation and advance structural reforms in the fields of industrial， fiscal， monetary， and trade policies. It is only through the proper execution of these policies that the eurozone will be in a position to rebuild the sought-after impetus for economic growth and avoid failures of a single policy.