Trichet: Reducing debt is the great challenge for coming decade
By Neil Irwin
JACKSON, Wyo. -- Jean Claude Trichet, the president of the European Central Bank, delivered a lunchtime address Friday that lays down the gauntlet for how he thinks policymakers should grapple with the great overhang of debt and other long-term imbalances that haunt many of the world's major economies.
"The current debt problems in advanced economies did not start yesterday," Trichet told an audience of economists and central bankers at the Federal Reserve Bank of Kansas City's annual economic symposium, according to his written text. He noted that indebtedness by households, financial companies and governments all have soared over the last decades in many nations. This, he argues, was both the underlying cause of the crisis and presents the greatest challenge in trying to bring a return to prosperity.
"The key challenge for stability and growth over the coming decade is to ensure a progressive reduction in the debt overhang and the orderly restructuring and strengthening of the balance sheets of banks, households, firms, governments, and central banks," said Trichet, who leads monetary policy for the 17-nation eurozone and is, with Ben Bernanke, one of the world's two most powerful central bankers.
Trichet then explored some of the options for dealing with this debt overhang one by one.
Inflation would be one option; central banks could move to lower the value of their currencies, reducing the burden of debt. Trichet, a committed inflation hawk, not surprisingly rejected this option. That inflation would undo the hard-earned credibility of central banks, he argues, and ultimately make the world economy less stable.
The second option Trichet raised would be living with the debt, essentially re-inflating the debt bubble to try to ease the pain of the adjustment ahead. He rejects this notion as well.
"Some have suggested to ignore existing financial imbalances 'for the time being' and focus only on the short term," Trichet said. "Rather than pressing on with the deleveraging process, more spending could be encouraged to sustain growth in the short term. I believe that adopting this view would be very dangerous for our economies."
He presented the experience of Japan in the 1990s, when its economy stagnated, as an example of the hazards of not resolving excesses.
Trichet offers a third approach: Growing out of debt. Strong growth allows incomes to rise, and thus for individuals and firms alike to reduce their reliance on borrowed money. The question, of course, is how to achieve it.
"The enormous challenge for policymakers in the advanced economies is thus to set in motion this mutually reinforcing positive scenario of deleveraging and strong and sustainable growth," Trichet said.
His specific policy advice for how to achieve this will be no surprise to those who regularly follow Trichet. He advocates that governments adapt a cautious approach to fiscal policy and bring budget deficits down, an ongoing tension between Trichet and many American leaders, who argue for a more delayed return to fiscal restraint.
"Fiscal consolidation pushes the economy towards a durable recovery," he said.
And central banks should maintain their focus and credibility on keeping inflation low.
For institutions like the Fed, ECB, and Bank of England, "their role as anchors of stability is all the more important in times of deleveraging," Trichet said.
August 27, 2010; 4:30 PM ET
Categories: *Economic agenda
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