EUROPEAN CENTRAL BANK

Measuring (un)Employment: European Central Bank



Measuring (un)Employment: European Central Bank

Introduction

In the long history of rising and persistent unemployment in Europe, almost all welfare-state institutions—employment protection legislation, unions, wages, wage structure, unemployment insurance, etc.—have been alleged to have caused and found guilty of causing this tragic development at some point in time. Later, welfare-state institutions in interaction with external shocks were identified as more plausible causes of rising equilibrium unemployment in Europe. Monetary policy has managed to be regarded as innocent. Based on the assertion of the neutrality of money in the medium and long run, the search for causes of European unemployment has shied away from the policy of central banks. But actually the institutional set-up regarding monetary policy is very different between the Federal Reserve System (Fed) and the European Central Bank (ECB) and its successor, The European Central Bank (ECB). We argue that the interaction of adverse shocks and tight monetary policies may have been the major—although probably not the only—cause of unemployment in Europe remaining at ever higher levels after each recession. We identify the monetary policy of the ECB as asymmetrical, in the sense that the Bank did not actively fight against recessions, but it dampened recovery periods. Less constraint on growth would have kept UK unemployment at lower levels.

Discussion

With the advent of the European Monetary Union (EMU) has come the formation of the European Central Bank (ECB). The purpose of this bank is to formulate and implement a single monetary policy for the countries that currently comprise the Euro Currency Area. This mandate is awesome. Though designed to be politically independent, the bank must deal with eleven sovereign entities that have hitherto relied upon their own monetary and fiscal institutions and policies to tackle economic problems. The success of the euro as an accepted currency and further European integration depends in large part upon the effective operation of the ECB.

Unemployment, Institutions, And The Neutrality Of Money

The analysis of European unemployment trends has been dominated by hypotheses claiming rising equilibrium unemployment (rising non-accelerating inflation rates of unemployment (NAIRUs)) caused by European labour-market institutions, standing alone or in interaction with external shocks. If monetary policy is included in the analysis at all, it is used as a 'control' or only as a short-run disturbance, very much in line with the neutrality-of-money hypothesis. Differences in welfare-state arrangements between the USA and Europe, together with stable unemployment in the USA but an upward trend in unemployment in Europe, have been widely used as support for the diagnosis and the consequent proposal of the deregulation of European labour markets and reductions of welfare-state programmes in general. This diagnosis had been deduced from natural-rate theory, but the empirical evidence for the theory was actually weak. However, Europe's unemployment trend (see Figure 1) is hardly consistent with one specific 'natural rate of unemployment', since unemployment rose with every recession and remained at levels substantially above the pre-recession rates. The only interpretation of this experience that is consistent with the ...