The ECB vs the FED

And the ECB? – you will need to explain why the ECB has taken a different route in dealing with the crisis.

The European Central Bank has been participating by pouring money into the financial market since the credit crisis along with the Federal Reserve. The ECB was the first bank to save the markets from crashing at the start of the credit crisis in August. The ECB made an injection worth 150 billion Euros liquidity. Such high liquidity injected into the system was done so to prevent higher inflation. Further more, the ECB after several meetings regarding the crisis, indicated that it was in position to injecting more money into the markets. The ECB did not follow the United States when changing the interest rates dramatically. ECB kept its interest rate at 4 %, staying in the euro zone. ECB did manage to stir short-term interest rates at a good level but kept the long term interest rates at a very high level. The Federal Reserve on the other hand immediately lowered the discount rate to 5.75% at the start of the crisis which was a 50 % drop. The ECB is focusing more on keeping the inflation adapted to the euro zone such as keeping the interest rate around 4 %. The Federal Reserve is under pressure since the inflation broke out and believes the ECB has taken a very different path. The United State is focusing less on the economy’s health whereas Europe rather maintains its position within the euro zone. The two institutions are clearly standing on different stance. ECB has two goals in mind and one to keep the price stable and the second to filter in as much liquidity in order not to increase inflation. The ECB’s attitude is said to be of “strong vigilance” regarding inflation. The Federal Reserve is focusing more on repairing the subprime damages and gaining back confidence from the investors. It is clear that the ECB and Federal Reserve were not on the same page since the crisis last August 2007. The ECB was predicted to raise the rates by the last quarter of the year and the FED to lower the interest rates by 50%. The ECB wants to keep injecting liquidity in the money markets in order to keep the businesses working and contributing to the economy with the funds given by the banks. The President of ECB, Jean Claude Trichet stated while in a conference in Frankfort “to leave interest rate unchanged…” Although, interest rate are to be risen in the future quarters but in the meanwhile will stay in the euro zone.

The ECB believes by keeping the prices stable and the interest rate within the euro zone and delivering such goals will create stability, job creation, and sustainable growth not only for Europe but for the rest of the world. The ECB has created 15.7 million jobs since the 1999 crisis till now. Such statistics are reassuring to the ECB.

Why is the ECB taking another direction? All central banks experience uncertainty especially during a time of crisis. The economy depends on them since banks are the main source and control of money. It is difficult to trace back to the real causes of the economic fluctuations and finding a solution. Changes within the money system can cause a greater problem but is needed to overcome a recession or disastrous economic fall which could affect the world. The Federal Reserve and the European Central Bank are taking different steps and the outcomes can be negative or positive, uncertainty still remains. The ECB and FED have developed in different structures with different policies. The ECB wants to follow the single market policy implied by the European Union. The main goals of Europe are to increase employment, strengthen the euro, and become an open trade market. The ECB is clearly on the EU’s side by not changing the rates and injecting liquidity in the market regularly to keep the businesses running and help Europe create more jobs. ECB’s focus is based on the EU’s economy, achieving a single economic entity. Such initiative to change towards some policy never experienced before by any other nations is difficult to base past macroeconomics facts from the past and therefore find the right solution to calm the credit crisis. The ECB is part of a very different system than of the United States. Europe has experienced very fast changes such as the introduction of the Euro which has had a great impact on the EU citizens and the economy. Therefore Europe has some expertise regarding rapid changes in the economy.

As said before, ECB’s main goal is price stability as a monetary policy. ECB is also independent from the other financial institution and therefore owns a high credibility influence and trust among the EU citizens. The ECB is even part of a treaty therefore all the other central banks in Europe will follow the decision made. The mission of ECB is to create a trust bond with the citizens and the banks. In order to achieve such trust, transparency must be shown. Unlike the US, The EU does not have a federal structure which was a problem when the single currency was introduced and voted by the EU citizens. ECB and central banks in Europe are different than in the states because every day they gather large amounts of information and statistics. Such act helps the central banks in the EU stay transparent and for the detection of internal problems. The Federal Reserve keeps a lot of its information to itself and the federal government rather than sharing it with the public.

The Federal Reserve monetary policy concept is choosing between job creation and economic growth. The ECB believes the two concepts work together. The FED does not truly believe in price stability increasing economic growth and job creation. The FED is more focused on the inflation and filling in the gaps where subprime loans were defaulted. The Fed is also changing rates to calm the credit crisis. ECB believe price stability will help them achieve their goal of transparency so the public can be involved and trust the system. The FED relies on long term solutions to prevent recession from happening and discount rate manipulation as well as long term interest rates. The FED and ECB are similar in many ways but so far the ECB has been more transparent regarding its goals. The ECB along with the Federal Reserve have been the main players in saving the money markets from crashing till they decided to divert due to different economical interests. Central banks need to remain flexible when responding to crisis and set different ways of dealing with the problem for future crisis.

Giverny Lowe