Alexander Hamilton’s most famous moment in economic literature. The first US Treasury Secretary made a risky double decision: to unify the debt of the nascent states that created the Union, and to implement a fiscal system capable of assuming it. Since then, and periodically, the ‘Hamilton moment’ has been talked about as a political instrument to face the great challenges. It is not surprising, therefore, that the FT has called the’Liz Truss moment’what awaits Europe if, after the elections next Sunday in France, Marine Le Pen‘s party has enough votes to govern.
The former British Prime Minister, as we know, announced just under two years ago, although it seems like a century ago, an ambitious tax cut that was curiously punished—despite the fact that high incomes were the most benefited—by the financial markets, convinced that it was irresponsible. The Bank of England had to intervene; the pound plummeted and British Treasury bonds soared, forcing Truss to rectify.
So far, everything is normal, within the abnormality that British politics has been installed in since Brexit. The strange thing is that if Le Pen wins and the markets welcome her victory with their nails, due to the instability that Macron‘s cohabitation with the extreme right entails, the one who must act as arbiter of the situation will be, precisely, a Frenchwoman, Christine Lagarde, president of the ECB, and, no less relevant, former Minister of the Economy in Sarkozy‘s time.
It was Lagarde, in fact, who, shortly after the pandemic, said that the ECB was not in a position to relax risk premiums. But, like Liz Truss, the markets forced her to eat her words, and the ECB had to put 750 billion euros on the table in one fell swoop to avoid the bloodbath.
The presidency’s powers
The ECB, for the moment, wants to appear as if everything is calm. At least that is what it wanted to show at the recent summit of central bankers in Sintra (Portugal), but it seems reasonable to think that one thing is to show restraint and another very different thing is to have it. Not in vain, and although France is a presidential country with enormous powers under the President of the Republic, a change of prime minister would put many chancelleries and, of course, Brussels on edge. Also, the markets, which, as soon as the announcement of the elections was made, punished France’s solvency, although it did not cause any bloodshed.
The first reason, the most obvious, has to do with France’s weight in the EU, not only economically but, above all, politically, in the face of the inevitable breakdown of its good relations with Germany, which also has an enemy within (AfD). The second has to do with the individual situation. The latest macro picture painted by the European Commission for this year is terrifying: a 5.4% public deficit, 112.4% debt in relation to GDP, and an economy that will barely grow 0.7% this year.
It will be said that a country like Italy also had a similar clinical picture, but there is a difference, and the carelessness with which the markets accepted Meloni‘s victory is the best demonstration. Successive transalpine governments have historically known how to live on the edge, but this is not the case in France, where the polarization between right and left has reached levels that were unthinkable not too many years ago. And this is where the monetary policy of the ECB and the French Lagarde come into play, as she is well aware of what is happening in her country.
There are two alternatives, although it is clear that the central bank is a collegiate body. The first is to understand what is happening in France by intervening if necessary to avoid an increase in the risk premium or by lowering interest rates so as not to give arguments to Le Pen, who is not a fan of monetary policy being independent of national governments.
The second response, on the contrary, is to heed the ECB’s mandate and focus on inflation, ignoring what is happening at home. Especially at a time when, as reflected in the central bank’s latest minutes, the first dissents over further rate cuts are already being observed. Biden’s difficulties in remaining a candidate, especially on the other side of the Atlantic, are paving the way for Trump’s return, another source of instability.
Expansionary fiscal policy
Being more selective in bond purchases could be an option for Lagarde. It should not be forgotten that if Le Pen succeeds in getting the young Jordan Bardella as prime minister, she will pursue an expansionary fiscal policy in order to pave the way for the presidential elections of 2027, which is the big game for the president of the National Rally. And if things do not go well for her, the scapegoat would be the ECB, which has a mandate (although it has not put it into practice) to act individually on a country without directly affecting the whole.
The so-called TPI, in particular, enables the Eurosystem to make purchases on the secondary market of securities issued in jurisdictions “where financing conditions deteriorate in a manner not justified by country-specific fundamentals, in order to counteract the risks affecting the transmission mechanism” of monetary policy. What is the problem? Nothing less than the TPI (Monetary Transmission Instrument) requires that in order to trigger such on-demand intervention, the country in question must not be included in the Excessive Deficit Procedure, and France is.
The lesson is clear. Lagarde, who was elected managing director of the IMF for political reasons rather than for her knowledge of economics and then president of the ECB, is going back to her roots. It is clear that the ECB is also a political body, but it will rarely be as influenced by issues outside its founding mandate as it is now. And it is well known that central banks know a lot about monetary policy and liquidity aggregates, but they are somewhat clumsy when it comes to analyzing geopolitics, as happened after the invasion of Ukraine and the subsequent increase in inflation.
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