Carte Blanche: The Eurozone Crisis

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In 2018, the first-ever event was organized in the European Parliament for Austrian School Economists. The Austrian School of economics takes a logical approach to the economy using deductive reasoning and the study of human action. Most influential is the Austrian explanation of money and banking, explaining why artificial credit expansion creates a boom and bust cycle in an economy. The artificial ten-year credit expansion of the European Central Bank (ECB) is the motivation for this event in the European Parliament, organized by the Ludwig VonMises of Europe. At this event, Max Rengeley speaks about the effects of the credit expansion under the Euro, and what he calls the “Super Bubble”. He also explains Austrian Business Cycle Theory and the economic and political effects that monetary inflation has had on Europe. The artificially low-interest rates under the ECB, as far as zero and negative rates, have fueled ten years of malinvestment. Quantitative Easing (QE) has monetized the debt of European governments leaving unsustainable fiscal policies. The creation of new money through central bank manipulation creates increased wealth inequality through the transfer of purchasing power from the middle class and poor to the government and banks. The Eurozone is facing an impending crisis and this small group at the European Parliament seem to be the only ones aware of the full extent of this problem.

As Max Rangeley explains, “While there have been other pro-enterprise and free-market events in the European Parliament, they have all neglected the ‘money issue’ so far, at least as those within the Austrian School should see it”. In general, the rest of politics ignores monetary policy and the problems within the Eurozone, even in the midst of Brexit. Not only because it seems confusing to the average person, but because monetary inflation is the opium of the state and special interests. Once a credit expansion begins, the economy requires more and more cheap credit to keep the boom alive, and after the recession, it will need even more cheap credit than the previous cycle to start another boom. This theory explains why the Eurozone is set up for the perfect storm that could potentially collapse the Euro.

The Euro was first launched in 1999 as a common currency among all nations in the EU, under control of the European Central Bank (ECB). The ECB controls the monetary policy for 340 million European citizens while individual governments control their own fiscal policies. “Maintaining price stability” is the stated goal of the ECB, like many central banks. Also similar to every central bank, it thinks deflation and even low inflation are contrary to this goal. After the financial crisis of 2008-2009, the ECB embarked on a Keynesian stimulus approach to the recession, beginning ultra-low interest rates and quantitative easing (QE). The Eurozone began this credit expansion in 2008 and periodically lowered rates to zero by 2012. Interest rates were eventually made negative in 2014 and the ECB does not intend to end the expansion anytime soon. Quantitative easing, launched in March 2015, led the ECB to purchase €2.6 trillion in securities, the vast majority on government debt of EU members, thus enabling increased deficit spending financed by monetary inflation. The M1 money supply of the Eurozone increased to €8,461,872 million in March 2019, compared to about €4,000,000 million in 2009, at the beginning of the expansion.

Before looking at the further effects of the expansion of the Euro, Austrian Business Cycle Theory can tell us how artificially low interest rates affect an economy. Frederick Hayek won his Nobel prize in 1974 on this topic, explaining how manipulation of the time structure of production creates an artificial boom of malinvested capital. When the rate of interest is pushed by the central bank lower than it otherwise would be, it misleads investors to purchase capital for higher-order goods. Eventually, interest rates must rise again and expose these malinvestments as unprofitable. The Eurozone has experienced artificially low rates for ten years now, with even the contortion of a market economy that is negative interest rates.

How is the artificial boom reflected in the economy? It is important to remember that monetary inflation is never neutral, and all prices do not increase equally to reflect the money injected into the economy. Also important is the fact that artificially low rates are always expanding the money supply. Since credit must originate from real savings, expansion of credit must ‘make’ these artificial savings. When the first receiver of new money spends it, prices will not have increased yet, leaving the early receivers of money with an increase in purchasing power. Price inflation is first revealed where the new money is first spent, this being the stock market and government expenditures. As observers, we see rising stock prices and mistake it for a booming economy, when it is really price inflation and a bubble. Politicians and central bankers calculate consumer price inflation as low and use this as an excuse to advance the expansion. Over time, the concept inflation has essentially been redefined to mean the rise in general prices of consumer goods, when inflation is really the artificial creation of new money. The rise in prices is an effect of inflation, not the definition. Although the “experts” say there is low inflation, it has just not moved to consumer goods yet, because as Max Rengeley mentions, the first receivers of the new Euros are not going out to spend it all on crisps.

Both artificially low interest rates and quantitative easing divert resources from the public and into the hands of the governments and banks, permeating increased wealth inequality. Monetary inflation creates Cantillon Effects, which show that early receivers of new money benefit with the ability to purchase goods at existing prices. Almost all of the bond purchases by the ECB consist of government debt, and European governments gain and the expense of the public. This is a hidden regressive tax, that diverts real wealth from the middle class and poor to the government, having the deepest impact on the least wealthy. Besides this effect, the credit expansion of the Eurozone has enabled a sovereign debt crisis in the European Union. Artificially cheap credit allows governments to monetize debt, through the low rates making the accumulated debt appear smaller, and allows them to issue more debt knowing that it can be purchased by the ECB. The entire debt of the European Union, as of 2017 was 81.6% of GDP. In the previous decade, the central bank was using its bond-buying program to induce nations to remain in the Eurozone. However, now that the program is over, EU nations with extreme deficit spending will lose their source of funding and can lead governments to default on their debt. Treasuries that become reliant on unsustainable paper as a means to absorb resources from the public will always become unsustainable themselves.

When understanding how the ECB induces nations to remain in the Eurozone, it is important to understand why. Since the European Central Bank’s balance sheet is made up largely of government debt, it can severely depreciate in value if the securities lose value. Alasdair Macleod, Head of Research at GoldMoney, writes an article explaining the risk in Eurozone banks. He explains that “Eurozone banks tend to have higher balance sheet gearing than those in other jurisdictions. A relatively small fall in government bond prices puts some of them at immediate risk, and if bond prices decline it is the weakest banks that will bring down the whole banking system”. Macleod concludes that the debt trap that Eurozone governments find themselves in is a trap for the ECB as well. The ECB must end the expansion of their balance sheet and raise interest rates, and this must inevitably force governments to cut back on spending or default on their debt, which would in turn collapse banks across the Eurozone.

In the midst of artificially existing capital, cheap credit, and government debt, the monetary policy of the Eurozone props up banks that would otherwise be bankrupt. Many existing banks, like many other companies, would be unprofitable if not for zero and negative interest rates, creating zombie banks. These companies do not create wealth, but divert resources from the productive economy to themselves, surviving on artificially cheap credit. Since credit expansion contributes to a stock market bubble, prices of stocks and bonds increase in bank portfolios, making them appear more profitable than reality. Furthermore, loans made where borrowers have fallen behind in payments accounts for 30% of bank’s equity, or €759 billion. Due to artificially low rates, insolvency in companies in Europe fell to 0.62% in 2017. At the end of the monetary expansion, asset prices will fall, non-performing loans will increase, cheap credit will no longer be available, and zombie banks will be exposed.

During his speech, Max Rengeley mentions that many free-market organizations ignore the money issue of the EU. Although they often recognize the artificially monetized government debt, known as the sovereign debt crisis, they do not recognize the problem of credit expansion and central banking overall. In other words, if we only uncover the problems of the sovereign debt crisis, the problem is only that EU nations have different fiscal policies and one monetary policy. This would make a more centralizing fiscal policy a more viable solution for Europe, or a “United States of Europe”. If we ignore all the political problems this would bring, this still does not become an economic solution to the problem because it does not wipe out the real cause of the impending Eurozone crisis: the Euro and the ECB. If Europe hypothetically managed all fiscal policy with one treasury, malinvestments and a stock market bubble would still occur, and the central government would accumulate debt and monetize it, similar to the financial system of the United States. If the problem is to be solved, manipulations by governments must be expelled from money and banking forever, and economies must adopt hard money.

A further step to ensure protection against financial collapse is the exorcism of inflationist ideology from economics and political mainstream. The European Union has adopted the economic doctrines of Keynesianism and monetarism that have dominated the monoculture of central bank thought and failed western economies for the last century. It must be understood that the popularity of these theories has nothing to do with scientific reality and everything to do with government power. The central bank aim of “price stability” through manipulation is chaos. Real wealth originates through capital accumulation and the production of goods and services, not through the printing press.