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It would be interesting if the Economic policymakers of the Eurozone got their collective heads out of their neoclassical arses before all hell breaks loose.

I don't know what they're telling each other privately now, but they sounded pretty self-satisfied about fiscal austerity just just 10 weeks ago (when the Greek Tragedy was already unfolding).

We also have to acknowledge that there is a lot of uncertainty regarding the short run effects of fiscal adjustment. There is an extensive literature examining this issue and different studies have yielded quite different results. But broadly speaking, what we can ascertain from this literature is that the short run costs of fiscal adjustment are likely to depend on a variety of conditions. Notably, these costs are likely to be more limited:

  • If the fiscal starting position is precarious and the adjustment is credible;

  • If financial markets react by lowering long-term interest rates;

  • If households have correctly understood the need for fiscal adjustment and have factored this into their spending decisions; in other words, if households are - at least partly - "Ricardian";

  • and if monetary conditions are accommodative.

This last condition touches on the very subject of today's conference: monetary and fiscal policy interactions. And in certain respects, it has to be acknowledged that such interactions are particularly challenging for the euro area.
Meanwhile, the ECB's own out-of-thin-air™ definition of price stability
"Price stability is defined as a year-on-year increase in the Harmonised Index of Consumer Prices (HICP) for the euro area of below 2%."
is not up for discussion, just as the SGP's outlandish macroeconomic assumptions aren't.

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Thu May 6th, 2010 at 06:20:43 AM EST
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