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What? Low interest rates don't ensure economic prosperity?

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06/07/2005

The president of the European Central Bank, Jean-Claude Trichet, is "perplexed" that the Euro-zone economy is growing slowly despite low interest rates. Trichet was also perplexed that, with bond yields at their lowest level since at least World War I and inflation-adjusted short-term rates at zero, growth in the 12-member euro zone was modest and consumers and businesses were low on confidence

Since its inception the ECB has almost constantly pursued a policy so inflationary that they have nearly always exceeded their targets of money supply (M3) growth of 4.5% and consumer price inflation of less than 2% and they do so now currently too. The ECB chief now says he is "perplexed" that a consistently inflationary policy don't ensure high growth. If he had been more aware of sound economics he would have known that inflationary policies only produces a short-term boost. The long-term effect are most likely directly negative, so the stagnating are hardly surprising given the fact that the current policy is roughly equally inflationary compared with what it has been in recent years and the fact that western Europe -particularly Italy and Germany- suffers from deep structural problems unrelated to monetary issues.

The sad part of this is that Trichet in the context of "mainstream" debate is actually a relative hard money advocate. He has so far rejected the consistent calls from everyone from the IMF, the OECD, The Economist and leading politicians from Germany, France and Italy to lower interest rates further. If the European economy weaken further however, I suspect that he will give in to the demands for an even more inflationary policy.

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