A. Recently, the president of European Central Bank (ECB), Mr. Mario Draghi, announced that he is thinking of applying Quantitative Easing (QE) within the Euro zone. Assume that you are a member of the ECB board of governors.
1) In your view, what could be the reasons behind this decision?
The following is the euro zone's root cause of quantitative easing monetary policy(Friedman, 2003). In September 2012, the European Central Bank proposed long-term refinancing plan and directed currency trading scheme, after that, the European sovereign debt crisis had been effectively solved. On one hand，liquidity (Rogoff, 1985) problems in the banking system had been substantially resolved after the implementation of long-term refinancing plan; on the other hand, a direct currency trading scheme made the market expectation REVEROEd. In the past two or three years, the overall European debt crisis had subsided, the focus of some policy-related economies began to shift to economic recovery. However, due to structural differences of economic status and the internal political problems of the euro zone (Clarida, Galí, & Gertler, 2002) member states, the European process of recovery will be very difficult, so that the European Central Bank had to implement QE.
One of the important reason is that the European economy is facing serious challenges of unemployment, especially serious youth unemployment. Due to weak economic growth, until the end of September 2014, the average unemployment rate went up to 11% of the euro area, the EU unemployment rate (Devereux & Engel, 2003) was 9.7%. Another reason is that the whole process of job market improvement was slow, and the unemployment rate in the euro area in 2014 improved only 0.5 percentage points and 0.8 percentage points higher than in 2013. Even more serious problem was that the unemployment problem had infected from social sphere to the economic sphere, the social stability (Gopinath & Rigobon, 2008) and political stability had become a major challenge in Europe. The third reason is that policy efficiency which the European authorities employed had promoted the economic recovery as an important reason for the increasingly weak efficiency. 2012 ECB long-term refinancing plan effectively solved liquidity problems in the banking sector, but it can not effectively promote private sector credit expansion. The most crucial consequence is the political issues. A similar ANALOOGy is that it seems like the last straw to overwhelm the situation. It is the catalyst to promote European Central Bank ultimately to the quantitative easing policy framework. In the May 2014, European Parliament elections, nationalist parties which were seriously discontent with the fiscal consolidation had made historic progress, for 751 seats in the European Parliament, nearly 20% of them had been controlled, which had only occupied 50 seats in the last seats in the European Parliament. Take these reasons as basic, quantitative easing had become a major mission to save the euro, including the European Central Bank.
2) What are the potential advantages and disadvantages of QE? Discuss critically.
The advantages mainly focus on these facets. From a static perspective, European quantitative easing for the European economy and the global economy are overall beneficial. QE may make market expectations turned positive and boost business investment and employment growth, theoretically, there will be more capital flowing into the real economy and gradually get rid of deflation, so as to enhance the overall level of demand in Europe and around the world. In addition, for the euro area, the quantitative easing policy can be used as an alternative to compensate for the lack of aggregate demand problems caused by fiscal austerity and promote economic recovery. Also, the European quantitative easing may tend to devalue the Euro which may bring better support to the European currency exports. Finally, Europe is actually caught in a certain degree of deflation, this is a huge substantial challenge for debt monetization "grand strategy". The quantitative easing policy strengthened the currency debt basis of inflation by lifting the level of inflation(Osborne & Rubinstein, 1994).
Furthermore, the following is the disadvantages of QE. Easing the introduction of the European Central Bank, the biggest goal is to escape the confines of the European economic recovery deflation. However, monetary policy easing can not solve the economic, social and political problems in Europe, monetary policy is only one of the policy responses to the economic difficulties in Europe, the quantitative easing policy still faces many problems:
First, from the assets purchasing plan itself, there are some major drawbacks. First, the ECB's capital ratio based on decentralized purchasing program which makes Germany and other euro-zone core countries to bear the most substantial task of asset purchases and the greatest responsibility for the euro-zone economic recovery, while Greece, due to small capital commitment, it escaped the primary responsibility of the sovereign debt crisis and adjustment. Second, imperfect risk sharing mechanism made Germany assume the major potential risks which made Germany and other core countries reduce the acquisition debt. This round of quantitative easing policy can be implemented, it should thank to that Germany made a huge concession. Once the policy would become ineffective and the Bundesbank would have to pay a huge cost, then sustainable QE will face greater pressure from Germany. Third, coordination problems exist. The ECB is facing a major conflict of interest coordination among member states in the central bank which may weaken the basis for policy implementation. Fourth, the bond variety of asset purchase program, size and structure will be a major controversial object. For example, the majority of the central bank is not willing to buy those bonds which can not gain the protection of risk-sharing mechanism. Europe may not be so lucky as America. Quantitative easing policy objectives may not be able to be achieved perfectly. Finally, the monetary policy is as a whole a policy, in a certain sense, the economic recovery and unemployment is more like a structural problems. To address the structural problems with monetary policy, the overall effect will be limited.