Conventional theory reached a local pinnacle of the ridiculous some twenty years ago when they elevated interest rates as the chosen vehicle to flatten prices. The higher these were, the better, since flat prices were ruled a law of nature. It was seen as a mere coincidence, not worthy of mentioning, that interest happens to be the revenue of moneylenders.

The Wall Street Journal (21/03, "France and Germany Could Benefit – Budget deficit restriction relaxed" by G. Thomas Sims) reports:

"France and Germany already may be benefiting from a war in Iraq that both nations so fiercely opposed.

"Until yesterday, the euro Zone’s two largest countries appeared on course to pay hefty fines for breaking strict rules that cap budget deficits. But just hours after US bombs began falling on Baghdad, the EU’s budget policeman, European Monetary Affairs Commissioner Pedro Solbes, declared the war an ‘exceptional circumstance’ – a ruling that could partly unleash countries from a pact that prohibits deficits from exceeding 3% of gross domestic product."

This law is all the more absurd since the EU makes no distinction between investment for infrastructures and current spending. If an EU member spends more than their current income for investments such as water purification plants, building new schools and hospitals, that is treated just as their spending for military parades, even though such investments will produce value for many years to come.

"Last year, France and Germany were the only two of 12 euro zone nations to break the 3 per-cent limit and both are likely to do it again this year as the economy sags and tax revenues dwindle. Fines can total 0.5 of a nation’s annual GDP – about 7.6 billion euros ($8.03 billion US) in France’s case and 10.5 billion euros in Germany’s.

"The development marks a set-back for Europe’s smaller countries. Belgium, Austria and Spain have recently balanced their budgets [on such fines] and have been calling for strict interpretation of the rules enshrined in the Stability and Growth Pact.

"The ruling is also annoying for the European Central Bank, which sets interest rates for the euro area. The bank relies on the budget standards in Europe to make a common monetary policy for a basket of sovereign nations. ‘Countries should not now use Iraq as an excuse to renege on their commitments to put their public finances in order,’ the bank said in a monthly report last week.

"Pressure is mounting on the ECB to cut interest rates, just two weeks after its most recent cut.

"The commission wouldn’t say how much leeway the Iraq war would give countries. A month ago the commission signaled that a country must send troops to get more lax tax treatment under the pact’s ‘exceptional circumstances’ clause, but that distinction was hazier today.

"The pact has repeatedly come under attack, especially during the past two years as the economy slowed. Critics said it hurts the economy by limiting spending during slowdowns, exactly when stimulus is needed.

"Last fall, European Commission President Romano Prodi even called the pact ‘stupid’, leading to a review. Two weeks ago, after months of wrangling, finance ministers agreed to make the pact slightly more flexible by taking the state of the economy and the countries’ debt levels into consideration when judging governments’ fiscal performance."

But on the whole the message appears to be that a little war is the best way of bringing down interest rates a bit for a little while.

— from Economic Reform, May 2003

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