Ugly truths from a bold Lagarde

Europe’s candidate to lead the International Monetary Fund was not, after all, Europe’s stooge. In no time, Christine Lagarde has embraced views that differ refreshingly from what eurozone leaders dare to say, or even think.

At the central bankers’ conference at Jackson Hole, Ms Lagarde violated two received European views of the current economic crisis. First, she said there can be too much of a good thing – in this case aggressive fiscal consolidation. Second, she suggested Europe’s banks are in worse shape than recent stress tests and public assurances would have us believe.

Ms Lagarde, a former French finance minister, is right on much of the substance (if not in persisting with the mistake of placing taxpayers ahead of bondholders in the queue where reckless banks’ losses are dished out). Beyond her useful contribution to the policy debate, however, her freethinking – and the reactions to it – shows that the IMF’s importance is as much political as it is technical.

By pointing out a commonplace – that if fiscal tightening happens too fast, it can destroy a recovery and undermine bond market credibility – Ms Lagarde offends against what has become the ruling view in the eurozone: that deficit cuts are the required cure, regardless of the patient’s symptoms. And not just the eurozone: the UK, whose stagnation is not unrelated to its ambitious and successful deficit reduction policies, is no doubt on her mind, even if she is too polite to name names. The UK may need to prepare for less glowing reports from the IMF in the Lagarde era.

The panicky reactions greeting her call for forced recapitalisation of banks shows that she touched a nerve inside the circle to which she recently belonged. Perhaps Ms Lagarde has seen the light with new advisers; perhaps she can now say what she has always thought. In either case, the contrast between her frank warning at Jackson Hole and the false optimism doled out by most eurozone ministers is worrying. It suggests that those with power to solve the eurozone crisis cannot bear to see the true state of affairs and draw the logical conclusions, or that they are politically prevented from telling it as it is.

Either shortcoming would leave a bad prognosis for the eurozone. One cannot hope for effective solutions if the problem is misdiagnosed. Leaders may take it as their collective responsibility not to rile either markets or voters. But doing so by insisting that all is under control only makes it harder to solve problems that, despite their assurances, are there for all to see.