Barry Eichengreen at Project Syndicate:
The Use and Abuse of Monetary History: Imagine two central banks. One is hyperactive, responding aggressively to events. While it certainly cannot be accused of ignoring current developments, its policies are widely criticized as storing up problems for the future. The other central bank is unflappable. It remains calm in the face of events, seeking at all cost to avoid doing anything that might be construed as encouraging excessive risk-taking or creating even a whiff of inflation…. It is, in fact, a capsule depiction of the United States Federal Reserve and the European Central Bank.
One popular explanation for the two banks’ different approaches is that they stem from their societies’ respective historical experiences. The banks’ institutional personalities reflect the role of collective memory in shaping how officials conceptualize the problems that they face. The Great Depression of the 1930’s, when the Fed stood idly by as the economy collapsed, is the molding event seared into the consciousness of every American central banker…. By contrast, the defining event shaping European monetary policy is the hyperinflation of the 1920’s, filtered through the experience of the 1970’s and 1980’s, when central banks were enlisted once again to finance budget deficits – and again with inflationary consequences….
[A] key conclusion of research on foreign policy is that decision-makers all too often fail to test their analogies for “fitness.” They fail to ask whether there is, in fact, a close correspondence between historical circumstances and current facts. They invoke specific analogies not so much because they resemble current conditions, but because they are seared into the public’s consciousness. As a result, analogical reasoning both shapes and distorts policy. It misleads decision-makers, as it did both Johnson and Bush. The same dangers arise for monetary policy….
[T]he ECB might consider not only how monetary accommodation allowed governments to run large budget deficits in the 1920’s, but also how central bankers’ failure to respond to the financial crisis of the 1930’s fed political extremism and undermined support for responsible government. Again, rigorous analysis requires testing these historical analogies for fitness with current circumstances. Anyone who does so will find it hard to defend the ECB and its stubborn inaction in the face of events. There is exactly zero evidence in Europe today that inflation is just around the corner…. When I consider the European economy, the ECB’s failure to provide more monetary support for economic growth appears to be directly analogous to Europe’s disastrous monetary policies in the 1930’s. The political consequences could be similarly devastating.