The Fed is Europe’s new dealer

Europe may not go to rehab before it is too late

THE US Federal Reserve took steps yesterday to make it easier for European banks to borrow and lend dollars. The Fed is now providing such cheap money to Europe that the European Central Bank can borrow from the Fed at lower interest rates than American banks. The Fed was joined in its efforts by 5 other major central banks: the Bank of England, the European Central Bank, the Bank of Japan, the Bank of Canada and the Swiss National Bank.  The scope of the coordinated global effort gives you an idea of the enormity of the problem.

While the new world/old world solidarity is heart warming, the coordinated central bank action does nothing to address the underlying cause of the problem: European governments have too much debt. By providing cheap credit to Europe, the Fed aims to ease pressure on financial markets by increasing the supply of credit to households and businesses.  Ironically, cheap money means lower interest rates and allows heavily indebted European governments to continue borrowing.

Even if Greece and Europe’s other credit junkies do not abuse the cheap money, pumping money into Europe may actually hurt Europe’s most vulnerable economies. How would this happen? Lending money to Europe means moving money into the Euro-zone which would increase the demand for Euros. A strong Euro would make goods produced in Europe more expensive compared with its trading partners. Expensive products are more difficult to export, and lower exports from Europe’s weak economies would lead to lower national incomes and less tax revenues. Embattled European governments that cannot raise enough tax revenue are likely to continue borrowing.  They may have no choice.

Concerned well wishers hope that the supply of cheap credit allows Europe to buy itself time ahead of the scheduled intervention in Brussels on December 8. However, according to the Wall Street Journal, there are growing fears that Europe may not go to rehab before it is too late.