Claim 11: Pride and satisfaction in hard effort
M. Trichet’s warnings and the warning which he ignored
We knew that a storm was brewing but, admittedly, we did not know exactly where. Neither did we know what would trigger it, or when it would come.
This is an amazing statement.
If M. Trichet and his other central bank colleagues were so aware of the looming dangers why were there no contingency plans to fit different possible scenarios? And why did the ECB make no effort to
identify practices within the European banking field which might be the source of danger (for example, the off-balance sheet vehicles used for getting round the BIS capital requirements, lack of pru- dence in the inter-bank markets as regards credit exposure, European banks’ dependence on overnight funding in the dollar repo markets where the source was primarily US money market funds etc.)? Once identified, these practices should have been the subject of discus- sions, as initiated by the ECB within the constitutional remits of the Maastricht Treaty, with the relevant authorities in Brussels or with member governments.
Should there not have been more urgent consideration given to a more assertive monetary policy, putting a higher probability on evi- dence of rapid money and credit growth being symptomatic of serious monetary disequilibrium and less fixation on inflation-targeting (by any other name)? Perhaps 2006 was already too late.
M. Trichet could not deny that he had been warned early on about the possible consequences of the US residential real estate market bub- ble. Back in November 2005 at his regular monthly press conference a reporter had posed the following question:
Q: May I put a question in French? I am from Canada. In the communiqué you said that you were looking at the situa- tion and there’s a lot of uncertainty at the moment. In this case, I would like to know whether you are worried about the real estate bubble in the US and whether you think that the situation could get even worse and if it were to get worse would you change your position?
Trichet: On this precise point I would only say that I signed the last statement of the G7. We had a consensus […] that each con- tinent and each major industrialised economy had its own homework to do. As far as Europe is concerned for us the homework is structural reforms. Structural reforms which we all think are absolutely essential. Looking at the US, it is quite clear that their main problem is the fact that savings in the US economy are far too low. So we agree as far as the diagnoses are concerned and we agree that these defects have to be corrected. We also agree that we have to correct them in the most resolute way possible. That is all what I would like to say on that point, but it is quite clear that there are defects that have to be rectified in all the major international economies.
Note that M. Trichet does not answer the question about real estate market bubble at all!
What he does provide is the well-trodden mantras about each coun- try doing its homework, without any mention of the serious monetary errors which were in fact occurring in both Europe and the US and for which central banks were responsible (but they are not responsible for savings behaviour and structural reform!).
At the time of this question the ECB had just made its first tiny rate rise from the absurdly low level of 2%. The official rate (and related market rates) had been stuck since 2003 in spite of accumulating evi- dence of rising temperature in European credit and real estate markets and other symptoms of monetary disequilibrium (see Chapter 3). And why was M. Trichet so sure that ‘low savings’ were the real big problem for the US economy rather just one symptom of a growing and huge monetary disequilibrium created by the Bernanke/Greenspan strategy of breathing inflation back in?
In fact in his pride about having spotted credit market heating at an early stage, M. Trichet told a specially convened meeting of the EU’s economic and monetary commission on 11 September 2007 (where he was to explain the massive ECB lending operations undertaken in August 2007) that already in the first issue of the ECB Financial Stability Review, published in December 2004:
We had said that a high level of risk appetite was encouraging a search for yield amongst investors across a wide range of markets and asset classes.
The rest of that particular address (of 11 September 2007) was the cus- tomary pat on the back for action taken – action which we have argued here was highly damaging both in terms of economic and financial outcome (see p. 110). Suffice it to say that in retrospect at least M.
Trichet made the following self-damning comment (with respect to ECB policymaking):
We have considered that our monetary policy stance is still on the accommodative side.
That was just four months before the onset (January 2008) of euro-area recession, in the wake of a giant quake in the credit markets amid all the signs of a credit bubble now bursting (except for the ECB’s data on bank lending which continued to grow for some months as bank
intermediation grew in partial offset to rapid shrinkage of shadow bank- ing system) and with money market rates up at 5%!