Why Jens Weidmann, president of the Bundesbank, is wrong about monetary financing and debt
According to this speech, Jens Weidmann is obsessed with
government deficits as a government deficit might entice politicians to use monetary financing to finance it. But it wasn’t the monetary financing of government deficits which got Europe in trouble. Monetary financing of real estate booms did, in combination with a flawed design of the monetary system, did. Monetary financing of real estate booms led to large deficits on current accounts, increases in private debts which were not matched by increases in wages, house price inflation and, when the bubble burst, house price declines without matching debt relieve. Debts are the largest rigidity in our economy – a flaw in the design of out monetary system.
And we all know the troubles this caused, for instance in Ireland.
Graph 1 shows Irish mortgage debt, comparable graphs can be made for Spain, the Netherlands, the Baltic states etcetera. Monetary financial institutions (MFI’s) have the remarkable prerogative to finance their loans with newly created money, other lenders (like pension funds) have to attract savings first. MFI’s have offloaded a lot of their mortgages to ‘Special Purpose Vehicles’, it is only since June 2010 that the ECB systematically monetary statistics take account of this in a systematical way (which might mean that they underrated pre June 2010 money growth).
Remember: Ireland has only about 4 million inhabitants…