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Mervyn King on the eurozone crisis, and the failure of the monetary policy approach


Mervyn King also now understands that an expansionary fiscal policy, additional to the use of monetary policy, is the best way to facilitate the achievement of full employment with falling private debt.

In an article published in The Telegraph (UK) [1] he reportedly said at a launch of his new book, at a London School of Economics meeting, that the European depression is the inevitable result of ‘deliberate’ choices made by EU elites.

Continuing his scathing assault on the European economic and monetary union, he predicts that the beleaguered eurozone will need to be dismantled to free its weak members from unremitting austerity and record unemployment.

Lord King said he could never have envisaged an economic collapse of the depths of the 1930s returning to the shores of modern Europe. The fate of Greece since 2009 – which has suffered a contraction eclipsing the US inter-war depression – is an “appalling” example of economic policy failure:

” In the euro area, the countries in the periphery have nothing at all to offset austerity. They are simply being asked to cut total spending without any form of demand to compensate. I think that is a serious problem.

“The weakest eurozone members face little real choice but to return to their national currencies as the only way to plot a route back to economic growth and full employment … The long-term benefits outweigh the short-term costs.”

A solvency crisis?

In another article also published in The Telegraph (UK) [2] King elaborated on how the world economy’s fundamental disequilibrium remains unsolved. The following is an extract from that article:

“Dealing with the immediate symptoms of crises by taking short-term measures to maintain market confidence – usually by throwing money at it – only perpetuates the underlying disequilibrium.

“Almost every financial crisis starts with the belief that the provision of more liquidity is the answer, only for time to reveal that beneath the surface are genuine problems of solvency.

“A reluctance to admit that the issue is solvency rather than liquidity – even if the provision of liquidity is part of a bridge to the right solution – lay at the heart of Japan’s slow response to its problems after the asset price bubble burst in the late 1980s, and different countries’ responses to the banking collapse in 2008, and the continuing woes of the euro area.

“Over the past two decades, successive American administrations dealt with the many financial crises around the world by acting on the assumption that the best way to restore market confidence was to provide liquidity – and lots of it.

“Political pressures will always favour the provision of liquidity; lasting solutions require a willingness to tackle the solvency issues.

“Fifty years from now, will our grandchildren ask why we lacked the courage to put in place reforms to stop a crisis happening again? I hope not. Events drive ideas, and the experience of crisis is driving economists to develop new ideas about how our economies work. They will be needed to overcome the power of vested interests and lobby groups.

“Only a recognition of the severity of the disequilibrium into which so many of the biggest economies of the world have fallen, and of the nature of the alchemy of our system of money and banking, will provide the courage to undertake bold reforms. ”



Editorial comment: Mervyn King recognises that banking needs fundamental reform, and he also recognises that monetary policy on its own has failed. However his statements are ambiguous in places and lack clarity. His emphasis on the need to address solvency rather than (or in addition to) liquidity is tantamount to saying that an expansionary fiscal policy needs to be implemented — if only because an expansionary monetary policy on its own has so signally failed.

It should be pointed out that Mervyn King’s journey of discovery seems to have been the reverse of Milton Friedman’s journey (King had a pivotal change of opinion for the better, but Friedman’s change was for the worse). We should make it clear that ERA’s overarching goals since its inception in 1993 are, and have always been, “ reform of the current financial system for a just and sustainable society”. It is a belated enlightenment for a former Governor of the Bank of England to now seek to redeem himself and the destruction caused by his ignorance or self-interest by failing to act during the ten years he was Governor.

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