Crisis is the mother of innovation in fiscal policy. In the face of recession when consumer demand is weak, I have long advocated that central banks make loans to the treasury to employ people and put more spending power into the economy. After saying they would never do it, the European Central Bank, is buying the debt of its member governments. This will relieve the pressure on countries facing extremely high interest rates on their borrowing. This enlightened policy is somewhat offset by the EU governments (led by Germany) insistence on budget cutting austerity which reduces consumer spending, in exchange for EU bailout money. Forget bailouts, they would not be needed if the central bank was doing its job.
The Japanese central bank is the most progressive buying corporate bonds, commercial paper, exchange traded funds, and J-Reits. The U.S. Federal Reserve is the least progressive of the three biggest central banks. It only buys government bonds. It says its program will lower long term interest rates. This is a nonsensical objective since rates are already historically low. Our problem is not high borrowing costs, but the fact that business does not want to borrow when consumer demand is low.
Financial columnist, John Plender, writing in the Financial Times 26 Sep 2012 worries about central bank balance sheets and the quality of collateral. He does not understand that a central bank can’t go bankrupt. It can just create more money via more loans and try again to get the economy moving. A really progressive central bank would buy things owned by consumers such as home mortgages. I do not approve of countries such as Greece with overly costly public employee pensions and early retirement that are unfair to other citizens. But, think what their economies would look like if pensioners had no money to buy consumer goods. The Greek government could subsidize all pensions and tell the retirees to go out and buy. Instead, more austerity is being insisted upon for the Greek, Italian, and Spanish governments. The world’s policy makers and general public are asking the wrong question when they see rising public debt. The problem is not debt, but how it is financed. The problem is not the inability of European and US economies to produce more goods, witness the excess capacity in plant and equipment and unemployment.