{"id":4809,"date":"2020-02-10T09:37:43","date_gmt":"2020-02-10T09:37:43","guid":{"rendered":"http:\/\/euromenaenergy.com\/?p=4809"},"modified":"2020-02-10T09:37:43","modified_gmt":"2020-02-10T09:37:43","slug":"what-the-ecbs-strategy-review-must-do","status":"publish","type":"post","link":"https:\/\/emimer.com\/?p=4809","title":{"rendered":"What the ECB\u2019s Strategy Review Must Do"},"content":{"rendered":"<div class=\"article__abs u-mt-se\" dir=\"ltr\">\n<p>he European Central Bank\u2019s new strategy review must recognize that economists are still a long way from understanding the dynamics of low inflation. Given this uncertainty, the ECB should aim to adopt robust policies that cause the least damage under a broad range of scenarios.<\/p>\n<\/div>\n<div class=\"article__body article__body--commentary english\" dir=\"ltr\" data-page-area=\"article-body\">\n<p data-line-id=\"720914bd38df446ca325e56e391df2e6\">LONDON \u2013 With her recent\u00a0<a href=\"https:\/\/www.ft.com\/content\/63404e0e-3dcc-11ea-a01a-bae547046735\" target=\"_blank\" rel=\"noopener noreferrer\">announcement<\/a>\u00a0of the European Central Bank\u2019s long-overdue strategy review, new ECB President\u00a0<a href=\"https:\/\/www.project-syndicate.org\/columnist\/christine-lagarde\">Christine Lagarde<\/a>\u00a0has generated high expectations. The review\u2019s outcome will be the first important signal of how Lagarde intends to lead the institution \u2013 and of how the ECB is likely to address persistently low inflation in the eurozone.<\/p>\n<p data-line-id=\"0f76b81109db4a71907c30cee2bbcea7\">The world is very different than it was in 2003, when the ECB\u2019s strategy was last revised, and the institution has itself undergone deep changes since the 2008 financial crisis. Faced with a global recession and then the 2011-2012 eurozone debt crisis, the ECB abandoned the traditional approach of passively meeting banks\u2019 demand for liquidity \u2013 its initial response to the financial crisis. Instead, the ECB started actively managing its balance sheet in order both to ease monetary policy and stabilize the financial system.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"278a44d5d1df4fb9a2a1ec4beb6d9644\">Furthermore, the ECB has radically expanded its operational tools. In 2014, it introduced negative interest rates on banks\u2019 deposits with national central banks, and began providing the market with \u201cforward guidance\u201d concerning its future policies. And, since 2015, the ECB has engaged in asset purchases (known as quantitative easing, or QE), causing its balance sheet to double compared to 2008. Finally, the ECB has assumed larger prudential supervisory responsibilities\u00a0<em>vis-\u00e0-vis<\/em>\u00a0European banks under the Single Supervisory Mechanism.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"86c0af73629a4a4797f5b8526b3c4fb9\">The first phase of the ECB review will be narrow, focusing on defining the bank\u2019s inflation target, the role of monetary aggregates as signals of medium- to long-term inflation, and communication. This is expected to be concluded in the first half of 2020, to be followed by a second phase of reflection.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"f5eea19beadc4dcf97fad4ce6d11f8a2\">Any meaningful review of these issues must objectively and critically analyze the decade since the financial crisis, during which average eurozone inflation has been well below the ECB\u2019s objective of \u201cbelow, but close to, 2%,\u201d and also lower than in the United States and the United Kingdom. In particular, the review should quantify the costs of tolerating a systematically below-target level of inflation, relative to pursuing other policy options.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"4fe9428570ac4733a27d23093b1569ce\">There are at least three hypotheses to explain the ECB\u2019s inability to achieve its inflation objective. The \u201cpolicy mistakes\u201d hypothesis maintains that the ECB should have implemented more aggressive policies \u2013 in particular, QE \u2013 between 2012 and 2014. If these \u201cmistakes\u201d stemmed from an ill-defined ECB strategy, then its strategy will have to be adjusted; if they were the result of political constraints, then its decision-making process should be changed.<\/p>\n<p data-line-id=\"94c1292a8acd453a8a91851b9fd8b788\">The second explanation highlights the inadequate coordination of fiscal, financial, and monetary policy in the eurozone. In 2009, for example, monetary easing was accompanied by a delayed cleanup of the banking sector and fiscal austerity, leading to a second recession that the ECB was late to identify. And in 2012-2014, a neutral fiscal stance was coupled with both insufficient monetary stimulus and banking-sector deleveraging.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"b8dae3c277a7499398d12ce7556db273\">Both hypotheses suggest that the ECB would have fared better had it clearly committed to a symmetric quantitative target for inflation or nominal GDP. That would have implied, for example, not increasing interest rates in 2011 (as the ECB did) in response to the temporary inflationary effect of higher oil prices. It also would have implied starting asset purchases in 2012 instead of 2015, and not stopping them in 2018.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"8c628446ff884504a248ccd681d06323\">The third hypothesis, favored by some central bankers, is that persistently low eurozone inflation reflects structural factors such as adverse demographics, low growth expectations, and the associated increase in demand for safe assets. This explanation thus draws parallels between the eurozone and Japan, where aggressive monetary and fiscal policies since 2013 have failed to lift the economy out of its two-decade-long slough of low inflation.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"a4289967a63f459aa801fd34ed41e4f0\">Advocates of the structural view argue that it would be better for the ECB\u2019s policymakers to adopt a lower inflation target rather than try to engineer a monetary stimulus that ends up inflating asset prices and jeopardizing financial stability. After all, their argument implies, there is little evidence that stable low inflation is bad for welfare.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"a9937539efe24ade8654ff248929ca45\">But this third hypothesis can lead to two alternative policy recommendations. The first is a \u201cdo-nothing\u201d approach, coupled with a downward adjustment of the ECB\u2019s inflation target in line with actual inflation. Such a course of action is justified if policymakers assume that potential output growth in the eurozone has declined independently of past fiscal and monetary stabilization policies. The second option, as under the first two hypotheses, is to maintain an accommodative monetary policy, possibly in coordination with fiscal policy. This would be the right thing to do if policymakers believed that persistent slack in the real economy would end up affecting potential output.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"e2741cc6a66642b78b8d6d43bc3c5f8d\">Most analyses imply that ECB policy has in general been too cautious during the last decade. Moreover, even if one accepts the structural explanation for trend inflation and takes the view that inflation expectations have fallen independently of past policies, the \u201cdo-nothing\u201d option is likely to cause expectations to spiral further downward, possibly leading to a deflationary trap. One then has to consider the costs linked both to the associated relative price adjustments and to the effect that the resulting upward pressure on the real interest rate would have on the burden of private and public debt. These costs are likely to be greater than those associated with the financial-stability risk of doing \u201ctoo much,\u201d which in any case can be addressed using prudential tools.<button class=\"comment__caller comment__caller--no-comment\" aria-expanded=\"false\" aria-label=\"Paragraph comment\" aria-controls=\"login_register\" aria-haspopup=\"true\"><\/button><\/p>\n<p data-line-id=\"5bdcc0876c304be3bae092202247df5f\">The ECB\u2019s new strategy will have to be based on the kind of quantitative analysis needed to answer these questions. But it also must recognize that economists are still a long way from understanding the dynamics of low inflation. Given this uncertainty, the ECB should aim to adopt robust policies that cause the least damage under a broad range of scenarios.<\/p>\n<\/div>\n","protected":false},"excerpt":{"rendered":"<p>he European Central Bank\u2019s new strategy review must recognize that economists are still a long way from understanding the dynamics of low inflation. Given this uncertainty, the ECB should aim to adopt&#8230;<\/p>\n","protected":false},"author":1,"featured_media":4822,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[17],"tags":[46,48,57,68,76,77,82,86,87,90,96,99,103,107,109,111,113,137,139,146,148,160,174,183,184,201,202,209,222,230,232,233,244,246,249,256,262,263,267,277,279,280,285,288],"class_list":["post-4809","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-finance","tag-aramco","tag-athens","tag-baroudi","tag-carbon","tag-climate","tag-climate-change","tag-co2","tag-cyprus","tag-decarbonising","tag-democracy","tag-doha","tag-eastmed","tag-egypt","tag-embargo","tag-emissions","tag-energy","tag-energy-peace","tag-gas","tag-gazprom","tag-greece","tag-greenenergy","tag-international-maritime-disputes","tag-lebanon","tag-maritime-boundaries-east-mediterranean","tag-maritime-disputes","tag-offshore","tag-oil","tag-opec","tag-pollution","tag-poverty-alleviation","tag-putin","tag-qatar","tag-rosneft","tag-roudi","tag-russia","tag-saudi","tag-solar","tag-solar-power","tag-straddling-hydrocarbons-reserves","tag-total","tag-trump","tag-turkey","tag-unclos","tag-usa"],"_links":{"self":[{"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/posts\/4809","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/emimer.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcomments&post=4809"}],"version-history":[{"count":0,"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/posts\/4809\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/emimer.com\/index.php?rest_route=\/wp\/v2\/media\/4822"}],"wp:attachment":[{"href":"https:\/\/emimer.com\/index.php?rest_route=%2Fwp%2Fv2%2Fmedia&parent=4809"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/emimer.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcategories&post=4809"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/emimer.com\/index.php?rest_route=%2Fwp%2Fv2%2Ftags&post=4809"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}