But it does not really ask why these regions have become politically fertile ground for the far right in the first place.

Saxony-Anhalt is an especially powerful example: the AfD is polling above 40%, while the state has low household incomes, high unemployment and a long history of deindustrialisation and population loss.

Immigration, East-West differences, cultural conflict, distrust of established parties and the AfD’s own political mobilisation clearly matter. The stronger point is that economic policy created the socioeconomic conditions in which those grievances could be politically exploited.

The Guardian is right that the AfD’s rise is a crisis for German democracy. But its explanation remains incomplete if it focuses primarily on immigration, cultural conflict and distrust of established parties. The more fundamental question is why these grievances have become so politically potent in particular regions.

Look at the macroeconomy: years of wage restraint, weak public investment, fiscal austerity and pressure on social spending have hollowed out parts of Germany’s economic and social fabric: deindustrialisation, energy shock, population loss, low incomes and high unemployment have created fertile ground for political radicalisation.

When people experience economic decline and see no credible improvement ahead, they don’t necessarily vote for better economics. They may vote against the system.

Austerity does not automatically produce the far right. But it can create the economic and social conditions in which the far right thrives. In other words: the economic policy regime reduced Germany’s capacity to absorb these shocks.

The lesson for Berlin is therefore: restore economic security, investment, decent wage growth and functioning public services. Democracy needs an economic foundation.

The issue is how competitiveness was achieved and what happened to the domestic side of the economy.

It is important to move the discussion away from “why are these people voting for extremists?” toward the more fundamental question: “what economic and social conditions make extremist politics attractive?”

The AfD exploits proximate grievances, but the political effectiveness of those grievances depends partly on the underlying socioeconomic conditions.

Democracy requires more than formal political institutions. It also requires an economy capable of delivering a credible expectation of improving material conditions to a sufficiently large share of the population.

The political crisis is, at least partly, the delayed social consequence of an economic policy regime that relied too heavily on wage restraint, fiscal restraint and export-led growth—and neglected domestic demand, public investment and regional economic resilience for too long.

A recent exchange under one of my tweets on China and global trade imbalances is a good occasion to walk through why the distinction matters: between saving, current-account balances, and financing, and why none of them collapses neatly into the others.

The statement is basically correct, but “funding the U.S. trade deficit” is potentially misleading, especially if you want to make the macroeconomic mechanism precise.

The key distinction is between saving, trade/current-account balances, and financial financing. The accounting identity:

So a U.S. current-account deficit means that U.S. expenditure exceeds U.S. national income, or equivalently, U.S. national saving is insufficient relative to domestic investment.

The counterpart is that the rest of the world, in aggregate, has a current-account surplus — i.e. it is supplying more goods/services to the U.S. than it is buying from the U.S.

The IMF puts the relationship very clearly: a country with a current-account (CA) deficit necessarily has net capital inflows, while the corresponding external surplus accumulates as claims on the deficit country.

Suppose China exports $100 of goods to the U.S. and receives $100.

China now owns a financial claim on the U.S. — directly or indirectly. The U.S. has obtained real resources from China and has supplied China with a financial claim in return.

Thus: China’s current-account surplus → acquisition of foreign financial assets and U.S. current-account deficit → increase in U.S. external liabilities / foreign claims on the U.S.

The BEA, for example, reports the U.S. net international investment position at −$21.27 trillion at end-Q1 2026, while the Q1 current-account deficit was $226.8 billion.

But this does not necessarily mean: “China saved $100 and lent that exact $100 to the U.S. Treasury.” That is the overly simplistic version.

The Chinese exporter may receive dollars, sell them to a Chinese bank, the bank may sell them to the PBoC, and the PBoC may acquire Treasuries. Or Chinese households/firms may acquire foreign assets. Or the financial intermediary may transform the claim several times.

And there’s an even deeper point: saving and financing are not the same thing.

The BIS explicitly warns against equating a country’s current-account surplus with the actual financing of a deficit country’s expenditure. Financing is about financial flows and balance sheets; saving is a national-accounting concept. (Bank for International Settlements)

The U.S. current-account deficit is the counterpart of net financial claims accumulated by the rest of the world. If the rest of the world ceases to run external surpluses, the U.S. external deficit must adjust.

That is the macroeconomic proposition.

And there is an important qualification: it is not necessarily “China” that has to fund the U.S. deficit. China can reduce its surplus while Germany, Japan, the oil exporters, Switzerland, etc. increase theirs. What matters is the aggregate RoW balance.

This is precisely why the IMF stresses that the relevant measure is the overall current account against the rest of the world, rather than bilateral trade balances.

It’s technically precise to say that China’s current-account surplus and the U.S. current-account deficit are related through the global balance, but there is no requirement that a reduction in the U.S. deficit must specifically come out of China’s surplus.

For example:

If the U.S. deficit falls by $500bn, China could reduce its surplus by $200bn, Europe by $200bn, and Japan by $100bn. Or China could reduce it by the full $500bn. The identity doesn’t tell us the distribution.

Indeed, the current global configuration is more complicated than simply “China funds America”: the IMF’s 2026 assessment identifies both China and the U.S. as major drivers of widening global current-account imbalances.

The cleanest formulation is not “China funds the U.S.” but: China’s external surplus and the U.S. external deficit are two sides of a global balance-sheet relationship — but neither is mechanically caused by the other.

That’s an important distinction between an accounting identity and a causal explanation. The accounting identity is silent on mechanism — it doesn’t tell me whether the U.S. deficit persists because of yuan undervaluation or because of structural overcapacity in Chinese manufacturing relative to domestic demand.

The trigger? The U.S. Treasury Department’s announcement that it would double the volume of its long-term bond buybacks.

Why is this a milestone for macro analysts?

It is the perfect empirical proof that the Treasury can massively influence relative prices at the long end of the yield curve—completely independently of the Federal Reserve (Fed) and without quantitative easing (QE).

The Mechanics of the Flow:

1. Supply Shortage: Through increased buybacks, the Treasury is actively removing “net duration” (long-term maturity risk) from the market.

2. Scarcity premium: Institutional buyers (such as pension funds) must compete for the remaining 30-year bonds.

3. Yield compression: This «artificial» demand pushes down 30-year UST yields relative to swap rates.

Since the swap spread is calculated as the swap rate minus the Treasury yield, a falling Treasury yield mathematically causes the (already negative) spread to widen—that is, to “tighten.”

It’s not QE (and why that matters):

Unlike central bank QE, no new central bank money is being printed here. The Treasury is engaging in pure duration management: It is repurchasing long-term bonds and financing these purchases primarily through the issuance of short-term T-bills.

Side Note: QE vs. Treasury Buybacks – What’s the Difference?

At first glance, both measures appear identical: A government agency buys long-term government bonds on the market, causing prices to rise and yields to fall. But under the hood, the mechanisms differ fundamentally:

• Quantitative Easing (QE) = Monetary Expansion: This is where the central bank (the Fed) takes action. When the Fed buys bonds, it creates new money (central bank reserves) “out of thin air.” The central bank’s balance sheet expands, and liquidity in the banking system increases on a net basis. It is a monetary policy stimulus.

• Treasury Buybacks = Duration Management: The Treasury Department is responsible for this. The Treasury does not print money. In order to repurchase the 30-year bonds, it must first raise the funds elsewhere—and it does so by issuing short-term money market securities (T-bills).

You can think of it this way: With QE, the market’s liquidity pool is expanded. With the UST buyback, liquidity is merely reallocated: The Treasury takes the “heavy,” risky 30-year maturities away from investors and gives them “light,” virtually cash-like T-bills in return. It’s purely maturity shopping, not money creation.

The bottom line:

The Treasury Department is increasingly acting as an active “asset manager” in the bond market. By adjusting the two levers of new issuances and buybacks, fiscal policy can keep the economy’s long-term financing costs in check, even if the Fed keeps interest rates high. The “Bessent put” is real—and this chart provides the proof.

A fascinating lesson in market microstructure unfolded on Bloomberg screens this week: 30-year UST swap spreads have narrowed significantly.

Against this backdrop, a sober Reuters Analysis on Bond Yields offers a much clearer lens, capturing the core market dynamic with a simple reality:

“Investors are demanding 5% to lock in money for 3-decades because they can get almost 4% just by leaving it in cash.”

This highlights a high hurdle rate. When short-term, cash-like instruments — such as T-bills or money market funds anchored by the —yield roughly 3.7% to 4.0%, investors face a steep opportunity cost. Why take on 30 years of duration risk for only an extra 1¼ to 1½ percentage points?

Deconstructing the 5.2% Yield

Rather than signaling a “bond market revolt,” the roughly 5.2% nominal yield on the 30-year U.S. Treasury breaks down into rational components:

• ~3.00% real long-term return

• ~2.24% inflation compensation

• Positive Term Premium: Compensation for duration risk, fiscal/issuance uncertainty, and geopolitical factors.

As the Fed Monetary Policy Report notes, yield increases this year have been heavily concentrated at shorter maturities, while term-structure frameworks explicitly separate expected short rates from premiums.

The Bottom Line

The rise in long-term yields isn’t a sign of lost confidence in U.S. solvency. Instead, it reflects an upward repricing of the entire nominal rate structure alongside an unusually attractive alternative in short-term cash instruments.

(*) The article says that “developed economies have become increasingly dependent on bond markets to fund spending” – I agree to disagree because it implies Govt spending is constrained by the willingness of bond investors to lend.

It runs the other way for a monetarily sovereign issuer (US, UK, Japan — floating currency, debt issued in own currency, no operational solvency constraint):

CB settles Govt payments by crediting reserve accounts first; bond issuance is a subsequent, separate operation that drains the reserves the deficit just created and offers the private sector an interest-bearing substitute.

There’s a coherent supply-side model here. But applied to Germany in August 2026, it runs into a demand problem the proposal doesn’t solve — and may make worse.

Germany’s constraint isn’t the price of labor

Schularick asks: how do we make German firms and workers more flexible and competitive? The better question is: who buys the additional output?

Germany already has weak household consumption, very high private saving, a corporate sector that is structurally a net saver, weak investment, and a fiscal stance that isn’t compensating for any of it. In that setting, a 19%-to-22% VAT hike is a substantial real-income shock — even with full pass-through, prices rise about 2.5% on a typical purchase. Households facing that either save less or consume less. In a stagnating economy, consuming less is the likely outcome. That’s an immediate demand contraction.

The promised offset — lower income tax and social contributions feeding through to more hiring, investment, and eventually higher incomes — is real but slow and uncertain. It requires firms to actually respond to cheaper labor by hiring and expanding capacity. A firm reluctant to invest today is weighing expensive energy, weaker Chinese demand, tariff uncertainty, elevated financing costs, and soft domestic sales — cheaper labor addresses one item on that list, not the list. You get a demand hit now and a hoped-for supply response later, in an economy that’s already short on demand. That sequencing is the core problem.

Where does the corporate saving go?

Sectoral-balance identity: (S–I) + (T–G) + (M–X) = 0. If households and firms want to save more, and government wants a smaller deficit, the residual has to show up as an even larger external surplus. Germany already runs an enormous one. Expecting it to absorb this adjustment isn’t realistic — and it’s the same contradiction underlying the whole package: Germany needs stronger domestic demand, and this shifts the incentives the other way.

Weakening dismissal protection compounds it. Less job security means less bargaining power, which historically means slower wage growth — removing another support for consumption just as VAT is squeezing it. Firms may end up with lower labor costs and higher margins without the follow-through into investment; the extra profit just adds to corporate saving, which is already too high. Lower costs, higher margins doesn’t automatically become higher investment, higher employment, higher consumption.

The Scandinavian flexicurity model Schularick invokes pairs labor flexibility with strong social insurance and active labor-market policy. Loosening dismissal protection without building that safety net isn’t the same model — it’s the “flexi” without the “curity.”

A pro-cyclical mix

Put the pieces together: restrictive fiscal policy, higher VAT, lower household purchasing power, less job security, a corporate sector saving even more, weak private investment — and an ECB weighing whether to tighten further. That’s a textbook pro-cyclical combination for an economy already below potential.

If households consume less, firms will only invest more when they expect stronger future sales. A VAT increase doesn’t create those sales. That’s the gap in the proposal.

What I’d prioritise instead

1. Public investment — infrastructure, grids, education, housing

2. Investment incentives tied to actual capex and R&D, not blanket tax cuts

3. Higher disposable income for lower- and middle-income households (high MPC)

4. Labor-market reform as wages = productivity + inflation target rate of the central bank (ECB)

5. No VAT increase during demand-constrained stagnation, unless the whole package is clearly expansionary for high-MPC households

6. Monetary policy that doesn’t lean against the recovery while this plays out

7. The German debt brake and the European debt rules must be completely abolished and replaced with rules that explicitly take into account the fiscal balances each country faces.

Schularick’s model isn’t incoherent — cheaper labor, easier hiring, consumption taxes over labor taxes, higher potential growth. But Germany’s immediate constraint isn’t a shortage of incentives to hire or consume.

It’s weak demand, weak investment, and a private sector already saving too much. The question isn’t how to make German labor cheaper — it’s how to make German firms expect enough future demand to invest again. A 22% VAT rate doesn’t answer that.

Mr. Blanchard—who served as the Chief Economist and Director of the Research Department at the IMF from 2008 to 2015—argues that markets are driven by sentiment. If investors lose confidence in France’s debt path, a self-fulfilling crisis occurs. Therefore, his solution is simple: France must appease markets with fiscal prudence.

My reply is straightforward: Market panic may be real, but it is only dangerous because we pretend governments are financially constrained. The real danger isn’t investor whims—it’s the self-inflicted economic damage of austerity driven by those misplaced fears.

Multiple Equilibria and Causal Weight

Blanchard’s argument is sophisticated; he isn’t claiming France is mathematically certain to become insolvent. Instead, he leans heavily on the concept of multiple equilibria in sovereign bond markets.

His logic reduces to this: France may be fiscally sustainable at today’s interest rates, but it could become unsustainable if investors suddenly demand a much higher interest rate spread.

Blanchard treats the interest rate as an externally determined market variable that France simply has to accept. But France isn’t Argentina. France is a member of a monetary union whose central bank issues the currency in which French debt is denominated. That distinction is fundamental.

France does not issue euros; the Eurosystem and the ECB do. Consequently, the euro area possesses the institutional capacity to prevent a self-fulfilling sovereign liquidity crisis—a capacity that countries like Greece lacked during 2010–2012.

The Macroeconomic Reality: Sectoral Balances

France runs a current-account position relatively close to balance compared with other European economies. If the French government attempts to eliminate its deficit rapidly, some other sector has to absorb the counterpart adjustment.

When the domestic private sector is trying to net save, government deficits are not an arbitrary “bad habit.” They are the financial saving of households and firms mirrored on the ledger. Evaluating the French deficit independently of private saving, investment, external balances, employment, and nominal GDP growth is bad macroeconomics.

Blanchard treats investor confidence as an exogenous constraint on fiscal policy. In a stock-flow-consistent framework, interest rates, fiscal balances, growth, and expectations are jointly endogenous. A fiscal contraction designed to reassure bond investors can easily crush growth and worsen debt dynamics in the process.

Managing Psychology vs. Managing the Economy

There is one sentence in Blanchard’s thread that begs to be challenged:

“The lesson for budget policy? Avoid bad budget news as much as you can. Provide good budget news...”

The objective of fiscal policy should not be to manage investor psychology. It should be to maintain full employment, price stability, productive capacity, and financial stability. Investor confidence should be a means, not the objective.

The problem is not that “France is running out of money.” The problem is that high interest rates, weak growth, political constraints, and the flawed architecture of the euro area interact to produce artificial instability.

The Empirical Proof: The OMT Precedent

We already have a natural historical experiment for this. Think back to Mario Draghi’s Outright Monetary Transactions (OMT) in 2012. Draghi collapsed Italian and Spanish sovereign spreads simply on a promise—without a single euro actually being spent—because the announcement permanently eliminated the self-fulfilling “bad equilibrium” branch of the market.

That historical proof tells us everything we need to know: Blanchard’s “danger zone” is a design defect of the euro area’s institutional architecture (characterised by the absence of an automatic fiscal-monetary backstop, the Maastricht no-bailout clause, and Bundesbank-derived orthodoxy)—not an iron law of public debt.

The appropriate response to market jitters is therefore not self-defeating austerity. It is a combination of growth-supporting fiscal policy, credible public investment, and—crucially—an ECB willing to permanently neutralise destabilizing sovereign spreads.

a simultaneous demand-and-supply shock exposed the limitations of a framework built primarily around managing aggregate demand.

The 2020s are different. Supply-side shocks have become a much more important driver of the macroeconomic cycle.

The Mechanics of the “Supply Shock” looks like this: To understand the danger, we should compare the two regimes:

• Demand Shock: Consumption drops, output falls, inflation falls. The Fed responds by cutting rates, simultaneously supporting employment and output.

• Supply Shock (The New Normal?): An external factor (like an oil spike) restricts supply. Output falls, but inflation rises.

In a supply-driven economy, the Fed faces a genuine policy trade-off.

If it tightens, it can prevent a temporary inflation shock from becoming embedded—but at the cost of weakening already fragile demand. If it eases, it can cushion output and employment—but risks allowing the inflation shock to persist.

An oil-price shock is also a distributional shock: purchasing power is transferred from oil-importing households and firms to energy producers and exporters. Because these groups have different propensities to consume, the shock can weaken aggregate demand even beyond its direct effect on production.

If monetary policy responds by suppressing demand further, the central bank can transform a temporary supply shock into a prolonged recession.

The cleverest part of the SF Fed paper is their use of the stock/10y UST correlation to provide evidence of this shift.

• The Old Normal (Positive Correlation): When demand moved the economy, stocks and bonds tended to move in the same direction. Growth boosted both corporate profits (stocks) and inflation expectations (pushing up yields/lowering bond prices).

• The New Normal (Negative Correlation): We have returned to a negative correlation. When markets fear supply shocks, stocks fall (due to lower output/profits) while yields rise (due to higher inflation).

The data is clear: the stock/10y UST-yield correlation has turned negative and remained predominantly negative. Investors are no longer pricing in demand-driven cycles; they are positioning for “stagflationary” supply shocks.

Yet the stock-bond correlation does not prove that supply shocks have become objectively dominant. It tells us that financial markets increasingly price the economy as if they were.

The Fed’s old reaction function—Inflation too high? Tighten.—is becoming a liability. In a world of supply constraints, mechanical tightening risks turning “weak supply + weak demand” into a full-blown recession.

The great mistake of the 2020s may be to treat every inflation problem as an excess-demand problem. When the constraint is on the supply side, the cure can become part of the disease.

A supply shock does not remain a supply shock. It can propagate through real incomes, income distribution, investment and expectations into a demand contraction. If monetary policy then suppresses demand further, the central bank risks transforming a temporary supply shock into a prolonged recession.

The problem isn’t that supply shocks have returned. The problem is that monetary policy is still primarily designed to manage demand.

The SF Fed also highlights that the relationship between oil uncertainty and oil prices has flipped. Historically, when oil volatility rose, oil prices fell—a classic demand-side reaction to recession fears. Since 2025, that relationship has reversed. Now, geopolitical and supply-side uncertainty sends oil prices higher. The Oil VIX is no longer just a gauge of noise; it is a gauge of supply-side risk.

The danger is not simply that supply shocks create inflation. The danger is that monetary policy can amplify their recessionary consequences by suppressing aggregate demand. The appropriate response to supply-driven inflation is not necessarily to stimulate aggregate demand. It is to prevent the supply shock from producing an unnecessary collapse in aggregate demand. The objective should not be to stimulate demand indiscriminately, but to prevent an externally imposed supply shock from causing an endogenous collapse in demand.

Japan has created a policy configuration in which fiscal debt, ultra-low interest rates, massive BoJ ownership of JGBs, and a weak yen have become mutually reinforcing, and she worries that exiting from that configuration could become destabilising.

If I might state: she dramatically overstates the historical analogy and underplays the very important differences between Japan and the US.

So if the proposition were: “A central bank buying enormous quantities of government bonds and keeping interest rates artificially low is inherently dangerous” -then the US would have to be included in the indictment. It isn’t. That is the first weakness in Tett’s framing.

A sovereign government issuing debt in a currency controlled by its own central bank does not face a conventional “funding crisis” in the same way a household, corporation or emerging-market government does.

The US cannot “run out of dollars.” Japan cannot “run out of yen.” The BoJ can always ensure that JGBs are paid in yen. So the simplistic: “Debt >200% of GDP, therefore Japan is heading toward bankruptcy” is wrong.

She jumps toward: “monetary experiments”, “1930s ghosts”, potential debt crisis, global repercussions. That’s where I think the rhetoric gets ahead of the economics.

The biggest weakness in Tett’s FT article is: she says the solution is: fiscal austerity + higher interest rates, because Japan has too much debt. But imagine Japan actually does this.

Fiscal austerity, lower aggregate demand, weaker GDP, lower tax revenue, possibly worse debt/GDP dynamics, higher interest payments, more pressure on fiscal policy.

And higher interest rates: higher rates, higher government interest expenditure, higher fiscal deficit, potentially weaker domestic demand, possibly recession. So Tett’s prescription can itself aggravate the fiscal arithmetic she is worried about.

In short: Don’t confuse the accumulation of government debt with the underlying imbalance. Japan’s problem was never that the government borrowed too much from an external creditor — it’s that Japan has persistently generated more savings than profitable domestic investment could absorb.

That excess has been absorbed two ways:

partly by government deficits, which the BoJ made cheap by suppressing yields, and

partly by exporting it abroad through the carry trade and foreign bond purchases funded in yen.

Those are the same policy, not two separate stories — the low rates that made the deficit affordable are the same low rates that pushed savings offshore and are now showing up as yen weakness.

Cutting gross debt through asset sales, as Robin Brooks proposes, doesn’t resolve that imbalance; it just relocates it — into a larger current account surplus, more capital export, or forced private-sector dissaving. And currency depreciation can be part of the adjustment mechanism, rather than automatically being evidence of monetary failure.

A recent conversation with a DIW expert provides in-depth background information on this topic.

The ZDF-interview with Claudia Kemfert is actually much broader than the Rhine itself. The Rhine is used as a highly visible example of a more fundamental economic argument.

Kemfert’s core message is that the Rhine’s record-low water level is not an isolated weather event. It is evidence that climate change has become an economic problem, and Germany is paying the price for decades of underinvestment in climate adaptation and decarbonisation.

It’s true that climate change has become an economic risk. Kemfert argues that people often discuss climate change primarily as an environmental issue. She wants to reverse that perspective.

Her point is low rivers, forest fires, extreme heat, drought, are now directly reducing German economic output. The Rhine is simply one of the clearest transmission channels from climate to GDP.

It’s well-known that the Rhine is Germany’s industrial artery. She emphasises that the Rhine is not “just another river.” It is the backbone of German logistics. When water levels fall:

• barges can only carry a fraction of normal cargo,

• transport costs rise sharply,

• chemicals, coal, petroleum, steel,

• construction materials

all become more expensive to move.

Companies either pay much higher freight costs or reduce production. The economic losses therefore spread well beyond the transport sector.

A “fun fact” is that Germany is repeatedly surprised by predictable events. One interesting aspect of her argument is that she treats today’s crisis as largely foreseeable.

Instead she argues: We already knew these climate risks were increasing. Therefore Germany should have invested earlier in resilient infrastructure, climate adaptation, renewable energy, water management, and modern transport systems. Instead, political action has repeatedly been delayed.

Therefore, the debate should shift from “Can we afford climate policy?” Instead, we should asks: Can Germany afford not to invest?

Instead of discussing the expense of climate policy, she wants attention on supply-chain disruptions, industrial interruptions, infrastructure damage, lower productivity, higher insurance costs, and higher transport costs.

The experienced DIW researcher is saying that climate change is reducing Germany’s productive capacity. That occurs through several channels: lower transport efficiency (Rhine), reduced agricultural output, heat-related productivity losses, infrastructure degradation, higher operating costs, and greater uncertainty that discourages investment.

This is therefore not merely a temporary demand shock, but increasingly a negative supply shock that lowers potential GDP if adaptation is insufficient.

Where I agree:

Climate adaptation requires substantial public investment. Government should act proactively rather than waiting for markets. Infrastructure is a public good. Austerity can leave economies less resilient to climate shocks.

Where I beg to differ:

Kemfert’s discussion focuses primarily on climate policy and adaptation. I would place stronger emphasis on Germany’s broader macroeconomic policy mix, arguing that years of fiscal restraint have left public infrastructure—including waterways, railways, and bridges—underfunded.

From that perspective, the Rhine crisis reflects not only climate change but also the consequences of prolonged public underinvestment.

In short

The interview is not primarily about the Rhine. The Rhine is the symbol. The real message is:

Germany can no longer treat climate change as an environmental issue separate from economic policy. Climate resilience has become industrial policy, infrastructure policy, and growth policy. Investing in adaptation and decarbonisation is therefore an investment in future economic performance rather than merely an environmental expense.

If the reports are correct that the US Treasury sold euros to buy yen, then, all else equal:

US Treasury sells euros

euro depreciates slightly

yen appreciates

dollar may remain relatively stable against the euro, depending on the intervention’s structure

However, it is important to keep the scale in perspective. Even an intervention of tens of billions of dollars is small relative to the roughly $7–8 trillion traded daily in global foreign-exchange markets.

The direct effect on EUR/USD is therefore likely to be modest unless the intervention changes market expectations.

Why might the ECB be uncomfortable?

The ECB has traditionally adhered to the G7 principle that: Exchange rates should be market determined.

It also generally avoids commenting on the euro unless exchange-rate movements begin to threaten its inflation objective.

If another major central bank or treasury starts buying and selling euros for strategic reasons, the ECB could worry about three issues.

The euro becomes a “policy instrument”

The euro is suddenly being used as a vehicle in a US-Japan operation. The ECB has no control over that. It prefers the euro to reflect economic fundamentals rather than geopolitical objectives.

Imported inflation

A weaker euro means more expensive oil, more expensive LNG, and more expensive imported raw materials.

For an ECB that has spent years trying to anchor inflation expectations around 2%, this is not entirely welcome.

European competitiveness

A weaker euro helps German machinery, Airbus, French luxury goods, and Italian industrial exporters.

So the euro area’s exporters might actually welcome some depreciation. That creates an interesting tension:

Exporters like a weaker euro.

The ECB worries about imported inflation.

Consumers dislike higher import prices.

The ECB would probably not protest publicly. The ECB has historically been reluctant to engage in public disputes over exchange rates unless moves become disorderly. More likely, officials would privately ask:

Was this intervention coordinated through the G7?

How large is it likely to become?

Is this a one-off operation or the beginning of a new exchange-rate policy?

If the United States began repeatedly selling euros without consultation, that would almost certainly become a topic at G7 and G20 meetings.

For decades, the international monetary system operated under an implicit understanding:

• the Fed focused on US monetary policy,

• the ECB on euro-area price stability,

• the Bank of Japan on Japan,

• exchange rates were largely left to markets except in crises.

If Washington is now willing to intervene directly to influence a major exchange rate for strategic reasons, it suggests that currencies are increasingly being viewed as instruments of industrial and geopolitical policy, alongside tariffs, export controls, and subsidies. That would be a significant departure from the post-1990s norm.

A coordinated US-Japan intervention of this significance would certainly be noticed in Frankfurt, and it would almost certainly be discussed internally—even if the ECB chose not to comment publicly.

In June 2026, the euro area seasonally adjusted unemployment rate was 6.3%. The EU unemployment rate was 6.0% in June 2026, also stable compared with May 2026 as well as with June 2025.

Eurostat estimates that 13.317 million persons in the EU, of whom 11.130 million in the euro area, were unemployed in June 2026.

I tried to figure out what the under-employment rate is, because, while mainstream media is hailing the decline in unemployment in Western economies, they seem to overlook, however, a large portion of the newly created jobs (if at all) are part-time positions.

These are mostly atypical and precarious employment arrangements—that is, jobs with insufficient income security.

It is therefore open to question whether the major economies are, by definition, close to full employment or not. An important question that arises is whether we can continue to rely on the “unemployment rate” as a benchmark, as we have done so far, while the gap between high and low incomes continues to widen.

Against this backdrop, David Bell and David Blanchflower emphasize in a NBER Working Paper (“Underemployment in the US and Europe”, August 2018) that, since the GFC (Global Financial Crisis), underemployment (as a new measure of unemployment) has become the key factor. Underemployment is, so to speak, the new unemployment rate.

In other words, the official unemployment rate has become a much less informative indicator than it was 30 or 40 years ago because labour markets have changed structurally.

The headline figure released by Eurostat—6.3% unemployment in the euro area—tells us only how many people satisfy the narrow ILO unemployment definition:

• without a job,

• actively searching for work, and

• available to start work.

Anyone working even one paid hour during the reference week is classified as employed.

This means the unemployment rate ignores several forms of labour market slack. Bell and Prof. Blanchflower argued long ago that we should broaden the concept of labour market slack beyond unemployment.

The main components are:

1. Involuntary part-time workers

o People working part-time because they cannot find a full-time job.

o This is by far the largest component.

2. Workers with insufficient hours

o Individuals wanting additional hours from their current employer.

3. Marginally attached workers

o People who want a job but are not actively searching.

o They are therefore excluded from unemployment statistics.

4. Discouraged workers

o People who have stopped searching because they believe no suitable jobs exist.

Taken together, these groups represent unused labour resources that are invisible in the headline unemployment rate.

Eurostat actually publishes these statistics. The good news is that Eurostat already measures what it calls labour market slack. This is a broader measure than unemployment and consists of four groups:

• unemployed persons;

• underemployed part-time workers;

• persons seeking work but not immediately available;

• persons available to work but not seeking work.

This framework provides a much richer picture than the unemployment rate alone.

This point is particularly relevant for the European Central Bank. The ECB frequently interprets unemployment near historical lows as evidence that labour markets are “tight.”

But if millions of workers would like longer hours, are trapped in involuntary part-time jobs, or are only marginally attached, then labour market slack is considerably larger than the unemployment rate suggests.

Consequently, wage pressure may remain subdued, inflationary pressure may be weaker, and monetary policy may become unnecessarily restrictive.

In short

Labour is not a conventional market. Employment depends primarily on effective demand, not on wage flexibility.

Full employment cannot be inferred from a low unemployment rate. Underemployment suppresses wage growth.

Workers seeking additional hours are unlikely to bargain aggressively for higher wages. Rising employment does not necessarily imply rising living standards. Employment quantity improves faster than employment quality.

Distribution matters. Even if employment reaches record highs, labour’s share of income may stagnate, household purchasing power may remain weak, and inequality may increase.

From a sober perspective it is not hard to agree with the empirical observation in the FT article that real wages have diverged from productivity. But I had like to challenge several of its theoretical premises. The disagreement is not primarily about the facts; it is about causality.

Michael Pettis’ response on Twitter already points in this direction. He has long argued that productivity gains do not automatically become household income. They become somebody’s income, and institutions determine whether that income accrues to workers, firms, governments, or foreign creditors. A post-Keynesian would push this argument even further.

The FT opens with: “Productivity growth is pretty much all that matters in the long run.”

First, it’s immediately imperative to qualify this statement. Higher productivity means that society can produce more output per hour.

But it does not tell us: who receives the additional income, whether demand will be sufficient to purchase the additional output, whether firms will invest, and whether unemployment rises or falls.

Joan Robinson famously remarked that productivity is a technical possibility, not an economic destiny. Demand, institutions and distribution determine whether productivity improvements translate into higher living standards.

Second, wages are not determined by marginal productivity. This is probably the biggest disagreement on my part.

The FT explains the divergence by saying that in competitive markets higher marginal productivity should bid wages upward. This mechanism must be rejected outright. Following Keynes, Kalecki and Robinson: 1) firms do not hire workers until wages equal marginal product; 2) firms hire workers because they expect to sell more output;

wages are primarily determined by

o bargaining power,

o labour market institutions,

o minimum wages,

o unions,

o social norms.

Marginal productivity theory is regarded as a poor description of how labour markets actually function. Heiner Flassbeck repeatedly summarises this as: Labour markets are not markets like potato markets.

Third, productivity creates a surplus—it does not allocate it. This is where Pettis and post-Keynesians strongly overlap. Suppose productivity rises 20%. That extra production creates an additional surplus. Who gets it? Possibilities include

• workers (higher wages),

• shareholders (profits),

• managers,

• governments (taxes),

• consumers (lower prices),

• foreign buyers (through cheaper exports).

Technology itself does not decide. Political and institutional arrangements decide. This is exactly why wage shares differ across countries despite similar technologies.

Fourth, the FT correctly notes that labour’s share has fallen. Yes, but this is not a side issue. It is the macroeconomic issue. If wage income falls relative to profits, then consumption demand weakens.

Fifth, productivity itself depends on demand,

The FT treats productivity as largely exogenous: Innovation - Productivity - Income.

I would reverse part of this relationship. Higher demand, higher investment, learning by doing, economies of scale, higher productivity.

Nicholas Kaldor called this Verdoorn’s Law: growing economies become more productive because firms invest more. So causality also runs Demand → Productivity.

Additionally, we must ask the following question at the end. Why did wages decouple around 1970?

Several institutional shifts occurred simultaneously:

• weakening labour unions,

• globalization,

• financialization,

• shareholder-value capitalism,

• monetary austerity,

• rising underemployment,

• lower top tax rates,

• corporate concentration.

These developments reduced labour’s bargaining power. Productivity kept rising. Real wages did not. The problem was not technology. The problem was changing institutions.

Finally, AI is not the fundamental issue. The FT suggests AI may widen the gap. Nope. AI changes the magnitude. It does not change the mechanism.

Even without AI, workers have already captured a shrinking share of productivity gains for nearly fifty years. AI merely intensifies an existing distributional conflict.

Heiner Flassbeck would probably reduce the story to one sentence: Real wages should grow roughly in line with national productivity if aggregate demand is to remain stable.

Thus, the wage-productivity gap is not merely a fairness issue. It is a macroeconomic instability.

Bottom line

The FT article remains largely within a neoclassical framework: productivity determines the size of the pie, while imperfect competition and weaker bargaining explain why workers receive a smaller slice.

Yet, productivity does not determine wages. Rather, wages are shaped by institutions, bargaining power, and macroeconomic policy. Productivity determines the economy’s potential surplus, but the distribution of that surplus is a social and political outcome.

Moreover, because wages are the principal source of mass purchasing power, the distribution of productivity gains is not merely an equity issue—it is fundamental to sustaining effective demand, investment, and long-run economic growth.

The divergence between productivity and wages is not viewed as an anomaly requiring minor corrections to market competition; it is seen as evidence that the institutional architecture of advanced capitalism has shifted decisively in favour of capital over labor since the 1970s.

(*) Heiner Flassbeck notes that the caption for the chart in the FT is confusing. It lists “Real hourly GDP per worker” as the definition of productivity. So is it productivity per worker or per hour of work? That’s a significant difference. Since the comparison is being made with hourly wages, one would have to use real GDP per hour worked (i.e., real hourly GDP); the term “worker” has no place here.

This Financial Times article is interesting because it argues that Japan has finally crossed a historical threshold.

I agree with some observations in the article but disagree with its explanation of why Japan escaped deflation and what policy lessons should be drawn.

The central message is that Japan has entered a fundamentally different macroeconomic regime. Instead of persistent demand deficiency, falling prices, zero interest rates, stagnant wages,

Japan is now experiencing moderate inflation, wage increases, closed output gap, renewed corporate pricing power, higher investment, and positive interest rates. The article repeatedly describes this as a structural transformation rather than a cyclical recovery: Japan has shifted from a “demand-shortage economy” to a “supply-shortage economy.”

Furthermore, the FT identifies several reinforcing developments.

Inflation expectations changed

For almost thirty years everyone expected prices to fall. Now households and firms expect prices to rise. That matters because firms raise prices more easily, workers negotiate higher wages, investment becomes more attractive, cash hoarding becomes less attractive.

Labour shortages

Japan now faces genuine labour scarcity due to ageing population, shrinking labour force which pushes wages higher. Unlike previous decades, firms must compete for workers.

Corporate behaviour changed

Companies that spent decades sitting on cash avoiding investment, avoiding mergers are now beginning to consolidate industries, invest, spend cash reserves and pursue M&A.

It seems that inflation has fundamentally changed corporate incentives. Interestingly, the FT does not claim that the Bank of Japan (BoJ) alone engineered the recovery.

Instead it highlights several external shocks. Especially Covid, global supply disruptions, Ukraine war, higher imported energy prices and weaker yen. These forced firms to begin passing costs through to customers. Once prices began rising, inflation expectations became self-reinforcing.

That is actually a fairly Keynesian story.

Yet, the article is far from euphoric. It lists many problems. Households real wages only recently caught up, food inflation hurts consumers and young mortgage holders suffer. Small firms accustomed to zero rates struggle. Bankruptcies increase, borrowing costs rise.

While the FT implicitly treats positive inflation, positive interest rates as a return to “normal capitalism”, I had like to ask: «Normal» according to whom?

Japan between 1995 and 2023 was unusual, but not because rates were zero. Rather, it was unusual because private demand collapsed after the asset bubble. The problem was insufficient spending, not abnormal interest rates.

They wanted to save rather than invest. Therefore private demand remained chronically weak. No amount of rate cuts alone could fully offset that. Richard Koo’s concept of a balance-sheet recession aligns closely with this view.

Furthermore, the FT barely discusses fiscal policy. In my opinion, this is a major omission. Japan avoided a depression because government deficits replaced missing private demand.

Without persistent fiscal deficits, GDP would probably have fallen much further. Government debt rose because someone had to run deficits while the private sector deleveraged. That is precisely what Wynne Godley’s sectoral balances framework predicts.

Inflation came largely from costs. The FT almost says this—but never fully embraces it. Japan’s inflation began because imported energy became expensive, imported food became expensive, supply chains tightened, the yen weakened.

Those are classic cost-push rather than demand-pull forces. That distinction matters enormously. From that perspective, the current recovery remains incomplete, and there is a real risk that tightening monetary policy too quickly could undermine the first durable escape from deflation in a generation.

The «visible hand of industrial policy» captures the assessment’s main thesis:

The era in which governments simply set the rules and let markets allocate capital (”the invisible hand”) is ending. Instead, governments are increasingly becoming active participants in shaping the economy (”the visible hand”).

This is not presented as a temporary phenomenon, but as a structural shift. The paper can be summarised in four core messages.

1. We have entered a new economic regime

JPMorgan argues that the post-Cold War consensus of globalization, deregulation and free trade is over.

Instead, governments now intervene directly by

• subsidising industries,

• steering investment,

• restricting trade,

• promoting domestic production,

• protecting strategic sectors.

Industrial policy is becoming a permanent feature of capitalism rather than an exception.

2. The motivation is not efficiency—but resilience

This is perhaps the most important point. During the 1990s and 2000s policymakers mainly asked: “How can we maximize economic efficiency?”

Today’s question is different: “How can we reduce strategic dependence?” The priorities have shifted toward

• national security,

• supply-chain resilience,

• technological leadership,

• energy independence,

In other words, efficiency has become secondary to resilience. The pandemic, the Ukraine war and U.S.-China tensions accelerated this change.

3. Governments are trying to redirect private capital

Industrial policy today does not usually mean governments owning factories. Instead they attempt to influence where private investors allocate capital through tax credits, subsidies, loan guarantees, procurement, export controls, and local-content rules.

The market still functions, but the government changes the incentives. This is why JPMorgan calls it: the visible hand.

4. Winners and losers will increasingly be determined by politics

This is probably the most important investment implication. For decades investors mainly asked, which company has better management? Which company has lower costs? Which company has superior technology?

Now another question becomes equally important: Which sectors are politically favored?

Examples include semiconductors, AI infrastructure, electricity grids, defense, critical minerals, batteries, and nuclear energy.

These sectors receive policy support independent of short-term profitability. Politics therefore becomes a major driver of investment returns.

Economists such as Mariana Mazzucato have long argued that governments do more than correct market failures—they actively create markets through mission-oriented investment. Similarly, historical examples such as defense R&D, the internet, GPS, and public infrastructure show that states have often played an entrepreneurial role.

Yes, the state is becoming more visible, but I would question whether this represents a “new paradigm.” From my perspective, industrial policy has always been a central feature of successful development—from postwar Japan and South Korea to modern China—and the neoliberal period from the 1980s onward was the historical exception rather than the norm.

The central message is:

Capitalism is moving from an era in which markets largely determined investment toward one in which governments increasingly shape where capital flows, driven less by efficiency than by national security, resilience, and strategic competition.

Another point often overlooked is that China did not merely produce goods more cheaply. It also invested heavily in education and engineering, built world-class infrastructure, supported strategic industries, encouraged technology transfer, developed integrated manufacturing ecosystems, and achieved enormous economies of scale.

In hindsight, it was optimistic for European policymakers to assume that China would indefinitely occupy the lower end of the value chain while continuing to buy high-end European exports.

As China moved up the value chain and domestic demand in Europe remained subdued, Germany’s growth model came under increasing strain. This critique has been made by economists including Heiner Flassbeck, Michael Pettis, and Barry Eichengreen, albeit from different theoretical perspectives.

Flassbeck emphasizes wage suppression and weak domestic demand, Pettis focuses on global saving and demand imbalances, while Eichengreen has written about the vulnerabilities of export-dependent growth models.

JPMorgan’s explanation is largely supply-side and geopolitical: China became too competitive. Yet, I would prefer a more macroeconomic explanation:

Europe, especially Germany, made itself excessively dependent on exports by suppressing domestic demand and wages.

These explanations are not mutually exclusive. China’s industrial rise undoubtedly intensified competition. At the same time, Germany’s policy choices made its economy particularly exposed when that competition increased.

So rather than saying “China caused Germany’s manufacturing problems,” a more balanced conclusion would be:

China’s rapid industrial upgrading exposed structural weaknesses in Germany’s export-led growth model. Those weaknesses were amplified by years of wage restraint, subdued domestic demand, and heavy reliance on foreign markets. That framing recognizes both China’s achievements and Europe’s policy choices, rather than attributing the outcome primarily to one side.

(*)

The American model prioritizes growth and innovation at the cost of higher inequality and weaker affordability.

The European model leads on affordability, equality and quality of life, at the cost of lower trend growth.

The Chinese model uses strong state control to prioritize rapid national development and stability. Each outperforms on what it prioritizes, but all are capitalist systems.

In other words, China’s 2Q2026 economic growth weakened to its lowest level in more than three years, missing expectations and the government’s 2026 target as a persistent mismatch between strong supply and weak demand ‌underscored deep structural imbalances.

Yet, the most important point is this:

A positive GDP deflator after about 12 consecutive quarters of negative readings is a much bigger macroeconomic signal than the 4.3% real GDP growth number itself.

Here’s why.First, what is the GDP deflator?

The GDP deflator measures the prices of all domestically produced final goods and services, unlike CPI, which measures only consumer prices.

Therefore: Nominal GDP growth ≈ Real GDP growth + GDP deflator

Why is a positive GDP deflator important?

For almost three years China experienced economy-wide price declines.

That meant falling producer prices, weak property prices, intense price competition, excess industrial capacity, depressed corporate profits.

The GDP deflation is broader than consumer-price deflation. And a positive GDP deflator suggests this broad deflationary phase may finally be ending.

What does this tell us?

Domestic demand is improving

When demand is persistently weak, firms cut prices. When prices begin rising across the economy, inventories fall, capacity utilization improves, and firms regain pricing power.

It usually signals demand has become somewhat stronger relative to supply.

Corporate profits should improve

China’s industrial sector has suffered from razor-thin margins. If output prices rise, while wage costs rise more slowly, profit margins usually recover. That improves business investment, hiring, and confidence.

Debt burden becomes easier to manage

China has enormous debt. Deflation increases the real value of debt. Positive inflation does the opposite.

Suppose debt remains RMB100 million. If prices rise 2% annually, that debt becomes slightly easier to service because revenues increase, wages increase, and cash flow improves.

This is particularly important for local governments, property developers, and state-owned enterprises.

It reduces fears of a Japan-style deflation trap.

For the past two years many analysts worried China might resemble Japan in the 1990s: weak demand, falling prices, stagnant property market, excessive saving, and falling nominal GDP.

One positive GDP deflator certainly does not eliminate that risk. But it suggests China may be moving away from that scenario.

Could inflation simply reflect higher producer prices?

Yes. The GDP deflator can rise because of commodity prices, energy prices, producer prices, and export prices, without much consumer inflation.

In other words, GDP inflation does not necessarily mean Chinese households are experiencing much higher living costs.

It may mainly reflect factory-gate prices, investment goods, construction prices, and government spending.

Bottom line

The positive 1.59% GDP deflator is arguably the most encouraging part of China’s latest data.

It suggests that the broad, economy-wide deflation that weighed on China for roughly three years may be easing. That is positive for nominal GDP growth, corporate profitability, debt sustainability, and fiscal revenues.

At the same time, the rest of the data indicate that China’s recovery is still unbalanced.

Industrial output remains relatively solid, but retail sales point to subdued household demand. In other words, the economy appears to be moving out of broad deflation, yet it has not clearly transitioned to a robust, consumption-driven expansion.

The reason for this pattern is straightforward. Energy is a necessity, not a luxury. Every household needs to:

• heat or cool their home,

• cook,

• drive or commute,

• buy goods whose prices include transportation costs.

These basic energy needs do not increase proportionally with income.

There is something important to notice: 1) the wealthy household actually spends more dollars on energy, 2) but because its overall spending is so much larger, energy is only a tiny fraction of its budget.

Economists call this a regressive expenditure pattern.

High-income households spend heavily on services. As income rises, people spend much more on items like: vacations, restaurants, education, financial services, healthcare, entertainment, and luxury goods.

These categories expand far faster than gasoline or electricity consumption.

Consequently, the denominator (total expenditures) grows much faster than energy spending.

Energy consumption has physical limits. A family can only:

• heat one house,

• drive so many miles,

• use so much electricity.

Even billionaires do not consume 10x as much gasoline or electricity as middle-income households. Energy demand therefore rises only modestly with income.

Econ 101 calls this a regressive burden. This is why increases in oil prices, gasoline prices, natural gas prices, and electricity prices hurt poorer households much more.

Suppose gasoline prices rise by 20%.

• Bottom 20%: energy rises from 17% to perhaps 20% of their budget.

• Top 20%: energy rises from 2.7% to around 3.2%.

The same price shock consumes a much larger share of the poorer household’s disposable income.

This is one reason governments often introduce targeted energy subsidies or tax rebates during energy crises.

Historically:

• In the 1970s and 1980s, net petroleum imports reached roughly 3–4% of GDP.

• Following the shale oil and shale gas boom, imports steadily declined.

• By the late 2010s and into the 2020s, the U.S. became a net exporter, pushing the series below zero.

That has an important macroeconomic implication:

• For the U.S. economy as a whole, higher oil prices are less damaging than they were decades ago because domestic producers benefit from higher prices.

• For low-income American households, however, gasoline and utility bills still represent a large share of their budgets.

So these two charts tell complementary stories:

1. Macro level: The United States is no longer heavily dependent on imported oil, reducing its vulnerability to external oil shocks.

2. Micro level: Energy price increases still disproportionately affect lower-income households because energy remains a much larger share of their spending.

This distinction—between the macroeconomic effects on national income and the distributional effects across households—is important.

A country can become much more energy-independent while still having many households that are highly exposed to energy price increases.

All the complaints that labor costs are too high and that comprehensive deregulation is absolutely necessary turn out to be a “smokescreen”.

I think this is one of the most important contributions to the current European economic debate because it directly challenges the dominant diagnosis of Europe’s problems.

For years, the standard narrative has been:

Europe invests too little because labor is too expensive, regulation is excessive, and taxes discourage business. Mazzucato argues that the evidence simply does not support this story.

Instead, she says the real problem is “financialization”.

Europe does not suffer from a shortage of capital. It suffers from a shortage of productive investment because large corporations increasingly behave like financial institutions instead of industrial companies.

The most important sentence in her article is probably this: Europe’s largest non-financial companies now lend more money than they invest.

Think about that for a moment. Historically, corporations were supposed to

• borrow money,

• build factories,

• develop technologies,

• hire workers,

• expand production.

Today, many of Europe’s biggest firms instead accumulate cash, buy financial assets, collect interest, pay dividends, repurchase shares, and lend money to others.

Their balance sheets increasingly resemble those of financial investors rather than industrial producers. According to the study behind the article:

• since 2009, Europe’s non-financial corporate sector has become a net lender to the rest of the economy,

• net productive investment has collapsed,

• the share of profits reinvested in productive capital fell from 18.9% (2000) to only 7.4% (2024).

That is an enormous structural change. Why is this happening?

Mazzucato argues that financial returns have become more attractive than productive investment. Imagine a CEO. Instead of building a new factory—which is risky—he can

• buy financial assets,

• distribute cash,

• raise earnings per share,

• satisfy shareholders,

• receive a bonus.

From the perspective of today’s corporate governance system, this is often the rational choice. For society, however, it is a poor outcome.

Business organizations often argue wages are too high or labor markets are too rigid. Mazzucato replies:

How can labor costs be the main problem when

• capital has been exceptionally cheap,

• profits have remained high,

• financing has been readily available,

yet firms still do not invest?

If cheap capital alone were enough, Europe should already have experienced an investment boom. It did not.

Keynes repeatedly argued that savings do not automatically become investment. That is exactly what Mazzucato is documenting.

Europe has 1) abundant savings, 2) abundant profits, and 3) abundant liquidity, but investment remains weak because firms choose financial accumulation over productive expansion.

In Keynesian language: the problem is effective investment demand, not the cost of labor.

Even if firms are highly profitable, they may still not invest. Instead they may simply accumulate financial wealth. That means weak investment is not necessarily caused by

• high wages,

• unions,

• regulation,

but by corporate incentives.

She therefore rejects the idea that governments should simply make capital cheaper. Her argument is cheap capital is already everywhere. The real question is how do we steer capital toward productive investment?

Mazzucato advocates a more active industrial policy, including:

• attaching conditions to public support so firms that receive subsidies invest rather than simply boost shareholder payouts,

• public investment that shares both risks and rewards with the private sector,

• corporate governance that rewards long-term investment instead of quarterly financial performance,

• mission-oriented industrial strategies focused on areas such as climate, health, and advanced technologies.

In short

Mazzucato succeeds in shifting the debate from “Is capital scarce?” to “What is capital actually being used for?” That is a crucial distinction. Her evidence suggests the eurozone’s investment malaise is less about the quantity of finance than about its destination.

This challenges the long-standing prescription that lower labor costs and deregulation will automatically revive growth. It also helps explain why years of low interest rates in Europe failed to generate the broad-based investment boom many policymakers expected.

PS:

The data itself isn’t contested. The underlying study — commissioned by the ETUC, Europe’s trade union confederation — tracked capital allocation at Europe’s 300 largest listed non-financial firms over a quarter-century and found net capital formation cut by more than half as a share of GDP since 2000, with the reinvested share of profit collapsing from 18.9% to 7.4%.

One doesn’t need to share the ETUC’s politics to check the arithmetic: even sell-side desks with no stake in the labor-cost debate are describing the identical behaviour, just as a feature rather than a bug.

JPMorgan Asset Management’s own late-2025 outlook flags European bank shareholder yield — buybacks plus dividends — running around 8%, pitched to investors as an attraction.

Goldman’s AM research on hyperscalers finds capex, buybacks and dividends together now absorbing roughly 95% of operating cash flow, up from 80% in 2019 — a different sector, but the same capital-allocation squeeze, this time flagged as a credit risk rather than a virtue.

The pattern isn’t in dispute across the political spectrum of sources. What’s in dispute is what kind of problem it is.

This is where Draghi’s own report becomes useful — not as confirmation, but as a case study in misdiagnosis. Draghi correctly registers that the eurozone’s domestic-demand-to-GDP ratio has sat at the bottom of the advanced-economy range since 2008 and calls for an extra €800bn a year in investment.

But the prescription — capital-markets union, securitization, deregulation, consolidation — is a supply-side, microeconomic toolkit aimed at making it easier for capital to flow, on the assumption that the obstacle is friction in the plumbing.

That assumption is precisely what the corporate balance-sheet data refutes: capital isn’t stuck, it’s cheap and abundant and firms are choosing not to deploy it into productive capacity.

Draghi’s report is a demand-side diagnosis married to a supply-side cure, which is why, on his own admission at the September 2025 review conference, every problem he identified in 2024 had gotten worse a year later.

It also brings him closer—though not all the way—to several themes that have long been emphasised by post-Keynesian economists.

His central claim is actually quite simple:

The dollar’s global dominance today is no longer primarily based on central banks accumulating reserves.

It is increasingly based on private investors around the world wanting exposure to US financial markets and US wealth creation.

So the dollar has changed character. It is no longer mainly “the reserve currency.” It has become the world’s preferred investment currency. Or, as Tooze calls it: The Profit Dollar.

Tooze argues that investors are no longer holding dollars primarily because they need liquidity or reserves.

Instead they buy dollars because they want access to US equity markets venture capital, AI companies, private equity, US-Treasury markets, financial innovation.

In other words, they are buying future profits.

Tooze still tells a capital-market story. I would instead ask:

Why are American financial assets so profitable?

AdamTooze ‘s answer is essentially: because global investors love them.

I agree to disagree: No; US financial assets are profitable because

persistent fiscal deficits support private incomes,

deep financial markets create abundant safe collateral,

the Fed acts as lender of last resort,

US corporations enjoy exceptionally high market power,

and the US Govt supplies the benchmark safe asset for the global financial system.

In other words, profitability is itself a policy outcome, not merely a market outcome.

I would invert the Adam Tooze’s causality.

Following the logic of sectoral balances associated with Wynne Godley, I like to argue:

US deficits create the net financial assets that the rest of the world wishes to hold.

Foreign demand does not simply enable the deficits; the deficits also generate the dollar assets that satisfy global demand for safe, liquid investments.

PS:

Adam Tooze says China’s reserve accumulation plateaued ~2015. Since then Beijing has kept $50-60trn walled off behind capital controls rather than exporting it into Treasuries. The financing of America’s twin deficits has shifted from official to private hands.

Brad Setser is likely to see this as a contradiction to his own position, since Setser is known to promote a sharp appreciation of Chinese currency. Because it is actually the strongest evidence yet for the structural-competitiveness read of China, not the currency-revaluation one. A country with this much trapped capital and zero push toward RMB internationalization isn’t running a currency-management strategy.

Jon Sindreu, the author of the report is directly rebutting the “Plaza Accord 2.0” idea that’s gained traction after Merz’s shift at the G7 summit, reportedly influenced by the Tordoir/Setser CFR paper.

His argument: yuan revaluation is being treated as a simple fix for a problem that isn’t primarily currency-driven.

The core message of the report:

Even a 25% yuan appreciation would only lift Chinese wages proportionally in dollar terms — but Chinese workers still earn a quarter to a half of US wages, so the gap survives. Breakingviews’ own math puts the cost impact at just 14% on average across 10 sectors, cutting China’s lead over the next-best Western rival by only about a quarter.

The structural sources of the advantage — cheap energy/materials (~30% of the gap), faster permitting (42 days vs. 62 in the US, 200 in Germany), faster biopharma time-to-market, and possibly-underestimated labor productivity (physical-output measures suggest China’s workforce isn’t behind at all, contrary to what value-added comparisons imply) — are largely currency-invariant.

The report also flags that OECD data show Chinese firms got 3-8x more state support than rich-economy peers (2005-2024), and that McKinsey’s own cost figures still don’t capture grants/tax breaks — so even the structural story may understate industrial-policy’s role.

The Reuters report is arguing against the common belief that if China allowed its currency (the yuan) to increase in value against the dollar, it would suddenly lose its edge as the “world’s factory.”

Here is the breakdown of the logic to understand what “14% on average” figure means.

The Currency Effect

When the yuan appreciates (gets stronger) against the US dollar, Chinese goods become more expensive for Americans to buy, and Chinese wages—when converted into dollars—technically rise.

The author acknowledges this: if the yuan goes up by 25%, a Chinese worker’s wage effectively becomes 25% higher in dollar terms.

However, the author points out that even with that increase, Chinese workers are still significantly cheaper than American workers (earning only 25% to 50% of what an American makes). Therefore, a simple currency shift is not enough to wipe out the massive wage gap.

Why “Just 14%”?

The phrase “just 14%” is the core of the author’s argument. You might think that if the yuan appreciates by 25%, the cost of Chinese goods should rise by 25%.

However, the author argues that the actual impact on the final price of a product is much lower.

Here is why that percentage is diluted:

Labor is not the only cost: A finished product isn’t just “labor.” It includes the cost of raw materials, energy, transportation, factory overhead, marketing, and profit margins.

The “Value-Add” factor: If labor represents, for example, 30% of the total cost of a product, a 25% increase in labor costs does not increase the total price of the product by 25%. It only increases the total price by a fraction of that (in this example, roughly 7.5%).

Weighted Averages: Reuters calculated this across 10 different industries. They found that when you factor in the ratio of labor costs to total production costs across those sectors, the total cost impact of a significant currency jump is muted.

The Big Picture

The author concludes that even if the yuan surged by 25%, the net result for a Chinese manufacturer would be: A 14% increase in their total production costs.

In simple terms: China’s lead is so large that a 25% currency appreciation is not a “silver bullet” for Western companies.

It would make Chinese goods slightly more expensive, but it would not be enough to make Western manufacturing suddenly more cost-effective or competitive than China.

In short:

The author is using this math to show that currency manipulation or adjustment is a weak tool for changing global trade dynamics.

China’s competitive advantage is built on more than just exchange rates, and a moderate currency shift won’t disrupt their dominance.

Note:

If Chinese firms receive 3–8x more state support (grants, tax breaks, subsidized loans) than their Western counterparts, then the “cost gap” is not just about labor or currency—it is about who is paying the bill.

If the state covers a portion of the “hidden costs” (like R&D or capital equipment) then China’s competitive advantage is even more deeply entrenched than the numbers suggest.

For sure, a sophisticated observation is that Chinese labor productivity is possibly underestimated.

Traditional economic theory assumes Chinese workers are cheaper because they are less productive.

However, if you measure “physical output” (units produced per hour), the gap often vanishes. This suggests that the “cheap labor” narrative is outdated; it’s actually “high-productivity labor at a low price,” which is a much more formidable competitive threat.

The short answer

Today, the Bank of England is 100% owned by the UK government. More precisely: There are no private shareholders.

When it was founded in 1694, the Bank was essentially a private joint-stock company created to lend money to the government, which needed to finance a war against France.

More than 1,200 investors bought shares (”Bank Stock”), including:

• merchants

• doctors

• craftsmen

• aristocrats

• even King William III and Queen Mary II

The Bank therefore functioned much like any other private company:

• shareholders owned it,

• profits were distributed as dividends,

• shareholders voted for directors.

After the Second World War, the British government concluded that a central bank had become too important to remain privately owned.

So in 1946 it nationalised the Bank. At that time:

• roughly 17,000 shareholders owned the Bank,

• they were compensated with government securities (”3% Treasury Stock”),

• the government became the sole owner.

The BoE immediately addresses this by saying that ownership and operational independence are two different things.

The government:

• owns the institution,

• appoints senior officials,

• sets the inflation target (currently 2%).

But the Bank independently decides:

• interest rates,

• quantitative easing,

• financial stability policies,

• banking supervision,

The entire explainer can almost be reduced to four sentences:

Yes, we used to be privately owned.

No, we are not privately owned anymore.

Yes, we belong to the British state.

But we make monetary policy independently from politicians.

Why is this politically important?

The Bank is responding to a persistent misconception. One often hears claims like:

• “The Bank of England is secretly owned by bankers.”

• “Private financiers own Britain’s money.”

• “The Rothschilds own the Bank of England.”

The official answer is simply: No, ownership is public.

Someone people would probably agree with the factual ownership statement but immediately add an important qualification:

Legal ownership is not the same thing as democratic control.

A possible critique would be:

• The UK government owns the BoE.

• Yet Parliament deliberately delegated monetary policy to an independent institution in 1997.

• As a result, crucial macroeconomic decisions—especially interest rates—are made by unelected officials rather than elected governments.

A critical reflection would therefore not be that the Bank is privately owned (it isn’t), but that the doctrine of central bank independence can lead monetary policy to become detached from broader economic objectives such as full employment, wage growth, and fiscal coordination.

So the debate is no longer “Who owns the Bank?” but rather “Who should ultimately decide macroeconomic policy in a democracy?”