Beware the ‘Japanification’ of Europe, warn ING economists

The eurozone is beginning to resemble Japan with its low-growth and low-inflation environment, coupled with still very loose monetary policy, according to economists at ING.
This raises questions about the European Central Bank’s tool kit and firing power.

Interest rates haven’t gone up in either the eurozone or Japan since the aftermath of the global financial crisis. Conversely, the Federal Reserve has raised rates nine times since the crisis years, presumably giving it room to cut them again should the economy need a boost.

The Bank of Japan is considered the most hesitant of its peers to normalize monetary policy. And already since the mid-1990s, Japan has been struggling with a high public debt ratio and stubbornly low inflation and growth rates. None of that bodes well for a hawkish central bank approach.

The eurozone looks like it entered a similar trend of late, said ING economists Carsten Brzeski and Inga Fechner, one day ahead of the European Central Bank’s next policy update.
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“An end to current unconventional monetary policy, i.e. the negative deposit rate and ample liquidity, is not insight and the ECB is expected to do everything it can to avoid an unwarranted tightening of its monetary stance.”

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“Last year, Japan’s debt-to-GDP ratio stood at 238%, and since 1994, headline inflation has been negative for almost half of the time. This trend has also emerging in the eurozone in recent years,” said Brzeski and Fechner, pointing at Greece, as well as Spain and Italy, in the aftermath of the European sovereign debt crisis. Though deflationary risks have disappeared in the eurozone, consumer prices haven’t exactly been soaring.

According to the ING economists’ model — taking into account economic growth, inflation, short-term interest rates and demographic change — the eurozone has started to look more like Japan since 2013. The below chart shows their findings.