Nouriel Roubini writes:  Monetary policy has become increasingly unconventional in the last six years, with central banks implementing zero-interest-rate policies, quantitative easing, credit easing, forward guidance, and unlimited exchange-rate intervention. But now we have come to the most unconventional policy tool of them all: negative nominal interest rates.

Economists at the New York Federal Reserve write: Euro area inflation expectations have been falling at both short- and long-term horizons, with the latter development suggesting the current low inflation environment is perceived as likely to persist. Because long-term inflation expectations play a key role in the decisions of households and firms, economists have stressed the importance of long-term inflation expectations being anchored at a central bank’s target. In this post, we use survey data on inflation forecasts to document evidence of recent “unanchoring” of euro area long-term inflation expectations, and note the difference in comparison to the 2008-09 period, when current inflation and short-term inflation expectations also declined but long-term inflation expectations remained steady.  EU Inflation

China’s Premier called for more active fiscal policy and a central bank publication said additional monetary easing is needed, signaling more support is on the way for the world’s second-biggest economy.

Li Keqiang’s call to aid growth accompanied an announcement of tax breaks for small business, according to a government statement summarizing a cabinet meeting yesterday. Meanwhile, the central bank should cut bank’s required reserve ratios further to deal with deflation risks, said an article in the People’s Bank of China’s newspaper published today.

“To fend off possible deflation, the central bank should continue to adjust tools, from required reserve ratios and benchmark interest rates, at the right time,” the Financial News article said.

“To cope with the current downward pressure on growth and to keep economic operation within a reasonable range, China’s active fiscal policy must become more effective and more efficient,” according to the statement.

The policies suggest China’s budget deficit will widen this year to 2.8 percent of gross domestic product, from 1.8 percent in 2014, Nomura Holdings Inc. economists led by Yang Zhao wrote in a note today.

“These measures should help mitigate the pace of the economic slowdown,” Zhao wrote. “However, such measures tend only to provide a cushion for the economy but cannot drive a turnaround of the growth downtrend.”

China this month cut the amount of cash banks must set aside as reserves by 50 basis points, its first across-the-board reduction since May 2012. It will inject as much as 600 billion yuan ($96 billion) into the banking system, Australia & New Zealand Banking Group Ltd. economists estimated.

Whatever the pros and cons of the current agreement between Syriza and the euro-institutions, it has at least given Syriza a bit of time to consider some longer-term policy options.

A number of commentators and economists from both sides of the political spectrum have recently proposed a ‘third way’ in the shape of a parallel or complementary currency.  A complementary currency (or ‘-ies’) could help boost short-term liquidity by providing an alternative ‘means of exchange’ function to the euro.

But what Greece really needs – if it does stay in the euro – is more euros, the currency that its vast public debt mountain is denominated in.  At the moment, it’s not clear where such euros would come from. It would not come from government spending, since Syriza is required to run a primary surplus – in other words, save more than it spends. Even if Greece is eventually allowed to participate in the European Central Bank (ECB)’s quantitative easing (QE) program, it is unlikely to get mney into the real economy.  And while Syriza is no doubt serious about clamping down on tax avoidance, the scale of the debt and the EU institutions’ refusal to write any of it off, suggests that this is not a long term solution.  Further inward investment also looks unlikely given Syriza’s plans to reverse or at least put on hold further privatisation.

There is, however, one type of institution in Greece that can create euros out of nothing. The commercial banks. Unfortunately Greek banks have stopped lending since the crisis began – many of them are basically insolvent and have very little appetite for making loans to Greek firms that look very shaky themselves (see figure 1 below). They are currently being kept alive with emergency funding from the ECB.

But what if Greek banks lent to the Greek government?  Economist RIchard Werner proposed  ‘enhanced debt-management’.  If such loans were long-term contracts and not tradable (unlike sovereign bonds), the interest rates the government would pay on them would be considerably lower than it pays to borrow on international markets since governments receive, according to global Basel regulations, the lowest risk weighting of 0%. This also means the banks would need zero new capital to back these loans. Eventually they would start lending normally to businesses again.

Meanwhile, the Greek government could use these loans to invest in infrastructure and capital intensive projects that Syriza has already identified as much needed. These would have strong multiplier effects that would boost employment and demand in Greece, raising tax revenues (assuming Syriza was successful in its tax collection reforms) and thus enabling it to sustainably reduce the public deficit without further damaging austerity.

Syriza claims to have won some space to design and implement their own reforms rather than have them laid down by the Troika. By using their own commercial banks’ power of credit creation, they might just be able to turn the debt-deflation spiral in to a positive feedback loop, with healthier banks and sensibly priced government debt that’s not subject to speculative attacks from bond vigilantes, increasing demand and a reducing deficit.