An overview of the effects of monetary policy in the Eurozone on GDP and inflation, from 1996 to the present day.

% annual growth rate:

Sources: M3 from European Central Bank and nominal GDP from IMF database, as at August 2023

The medium-term relationship between money and nominal GDP growth in the Eurozone, 1996-2022

Five-year moving averages of annual % changes, with 1998 being the start of the first five-year period.

Comment on monetary trends in the Eurozone

Europe's various nations had different monetary experiences in the immediate post-war decades. Germany was committed to sound money policies. From 1974 its central bank, the Bundesbank, tried to meet targets for growth of the M3 quantity of money, and in general it delivered slower growth of the quantity of money and lower inflation than the central banks in other European countries. The Bundesbank's success was so influential that its thinking dominated the early years of the single currency project (i.e., the introduction of the euro in place of the previous multiplicity of national monies) from 1999. As the table shows, in the five years from 1995 - 2000, the annual growth rate of M3 averaged 4.5% in what were to become the Eurozone member states. This was associated with nominal GDP growth of slightly less, 4.0% and negligible inflation.

Unfortunately, after the inception of the euro in 1999 banks in the so-called Club Med or 'peripheral' states could lend to their customers at much lower interest rates than before, provoking a big credit boom. The growth rate of money accelerated, reaching annual rates in excess of 10% in 2006 and 2007. A boom developed, which then had to be checked by the imposition of tougher rules on the banks by the European Central Bank, with the support of the Basle-based Bank for International Settlements. The four years to 2014 saw remarkably low increases in both M3 and nominal GDP. A further feature is that the post-2008 period has been characterised by wildly divergent changes in the quantity of money in different Eurozone member states. Nations which had saw the quantity of money collapse also saw deflation, whereas those with positive money growth had rising nominal GDP. The divergence became less apparent in 2017, although occasional short-lived spells of deflation persisted in some member states even into 2018. 

In late 2019, concerned that inflation was below target the ECB re-launched a programme of asset purchases. This had only been in operation for a few months before the coronavirus pandemic began to affect Europe. Most countries responded with substantial so-called ‘fiscal stimuli’ (which were largely financed by banks and central banks) and the ECB launched a further asset purchase programme – PEPP (the Pandemic Emergency Purchase Programme). This caused broad money (M3) growth to rise to unprecedented levels. With demand suppressed due to the restrictions imposed by member state governments to prevent the spread of the virus, the surge in M3 did not result in consumer inflation for a time – indeed, prices actually fell for several months in late 2020. As restrictions were lifted in 2021, consumer prices started to rise, peaking at 10.6% in October 2022. (In some individual member states, inflation rose to over 20% for a while) The ECB responded by raising interest rates for the first time in 11 years in July 2022. Persistent inflationary pressures have since seen the cost of borrowing on its main refinancing fixed rate rise by 400bps to 4.0% by June 2023, with further monetary policy tightening expected. This has caused the quantity of money, broadly defined, to contact. The annualised quarterly rate of growth turned negative in December 2022 and it has stayed below zero since then. Such stagnant levels of M3 growth suggest that the Eurozone economy, which entered a technical recession at the end of the first quarter of 2023, is likely to slow further.