Question: Which is best printing Money or borrowing from the Chinese?

Readers Question: What on Earth is the point of the Eurozone borrowing money from China when the ECB can print any amount of money it wants any time? Of course the effect of the ECB printing money donating it to indebted Euro countries and/or the banks holding those countries’ bonds is likely to be inflationary (absent some compensating deflationary instrument), but you’d get exactly the same inflationary effect from borrowing money from China and throwing it around all over the place. (from Euro Bailout)

I think part of the issue is psychology. The ECB doesn’t want to contemplate ‘printing money’ It claims printing money is not in its remit, but even if it was, I doubt they would want to do it. (I do believe that in current crisis, it would make sense for the ECB to create money and be involved in bond purchases.)

In the current climate, printing money may create some inflation. (see: why printing money causes inflation) However, given the stagnant nature of the European economy, this inflationary effect is likely to be muted. This is especially the case in Southern Europe where austerity measures (spending cuts) are causing lower aggregate demand, weaker growth and pushing inflation below target.

One legitimate difficulty for the ECB is the divergence between inflation in the north and the south. Germany and France show signs of economic recovery, whereas, in the south, the economic situation is much worse. However, given the overall current state of the Eurozone economy, I would still want the ECB to create money and buy bonds; a little inflation is the least of the Eurozone concerns.

Borrowing from the Chinese

If the Eurozone could persuade China to buy Eurozone government bonds, then it will help finance shortfalls in the government debt and push bond yields lower. If, for example, China bought Italian government bonds, it is hard to see how China holding more Italian bonds, would be inflationary.

If it was a direct loan from China, then the EU could give this to certain countries like Italy; then it would be used to plug the budget deficit, again I doubt that would be inflationary. Partly because I’m sure if the EU did secure a loan from China it would only give to countries in return for the inevitable austerity measures.

If we borrowed from China and this fed through into higher bank lending and higher consumption, then this borrowing would probably cause inflation. However, I assume that any funds, the EU secure from China will be used to help finance government debt, and be part of austerity packages; I can’t see loans from China leading to a boom in spending.

Therefore, in the current situation (of fiscal austerity, low global growth) I can’t see borrowing from China contributing to an increase in European inflation.

However, if countries in the south of Europe had an independent Central Bank, I don’t think quantitative easing would cause any significant inflation for them either.

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