Transcript of the fireside chat at Reuters Global Outlook Investment Summit
Interview with Philip R. Lane, Member of the Executive Board of the ECB, conducted by Balázs Korányi on 1 December 2020
2 December 2020
The pandemic has of course dominated your year but after nine difficult months, might we be turning a corner? An effective vaccine puts the end of the pandemic in sight. But it’s going to take some time to deploy this vaccine, so 2021 is still going to be difficult. From your perspective, what’s the biggest challenge, the biggest risk in 2021?
As you indicate, what we have right now is a mixed story, which is the very good news that we have a credible route towards vaccination. That was, by the way, always the assumption in our baseline forecast, that there would be a medical solution rolled out in 2021. So, from our point of view, the fact that it looks like the vaccines are on their way confirms our baseline scenario and makes it less likely that we will have more severe scenarios. So, that’s very good news. But of course, the trick is we’re in the middle of the second wave. Of course, there is already some progress in containing the second wave. But the reality is – as I think all of the public health experts you will see on TV will tell you -- it’s going to be a mixed reality. We cannot live unrestricted lives until there is mass vaccination and, to me, the biggest challenge is making that adjustment: to realise and to benefit later in 2021 from as widespread vaccination as possible but, in the meantime, to reconcile the need to control the virus with the importance of supporting the economy.
If you translate that to monetary policy and your particular task in this, what does the ECB have to do in this period?
I think we’ve been clear and our most recent policy statement in October was extremely clear and really captures it: our role is to ensure favourable financing conditions. Right now, you can look at different measures. You can look at what’s happening in terms of risk-free rates, the sovereign bond market, the terms and conditions that banks charge their customers, which is a very important indicator in a bank-based system. So, if we can keep financing conditions where they are these days, at a low level, that supports the economic recovery and offsetting the pandemic shock to inflation. And in that world – we know and we’ve been saying that –,for example, fiscal policy can be very powerful. In a world with low interest rates, the multiplier effect of fiscal policy can be quite high, compared with normal conditions.
Even before the pandemic there was a tendency for deglobalisation, mostly on the back of trade tensions. Do you reckon this is temporary? Can there be a return to the sort of globalisation we saw in the past two to three decades?
I think it’s very important to differentiate between the policy decisions, so free trade, the attitudes of multinational firms and so on, and the technological issues to do with globalisation. What I think we have in fact been seeing in the last five or ten years is a plateau. After a period with the opening up of the former Soviet Union, the opening up of China and so on, the reduction in shipping costs, the digitisation, there was a big increase in global activity. You would need something that is driving down trade costs to see a resurrection of that. The fact that we have a high level of globalisation is relevant but let’s see what happens with the economics of trade costs and the economics of the differentials. So, in a world where, for example, wage differentials between the advanced economies and the emerging economies would narrow, then the economic case for a lot of offshoring, of chopping up the value chain, is less. And then in a world of geographic risk, climate change and so on, building redundancy into supply chains makes sense, which would mean more regional supply chains, not just global supply chains.
Do you see a risk that there would be an actual reversal in globalisation or merely just a slowdown?
I think that the economics of that is open. You can imagine a world where there are reasons why trade costs go up or the fundamental drivers of trade including, as I indicated to you, relative labour costs narrow, which we could see in a kind of market-driven way less by way of global trade. We also know that as countries get richer, the balance of spending moves from goods consumption to services consumption, which tends to be local. I’m not really a crystal ball gazer, I don’t need to make strong bets about the future of globalisation, but we do need to be open-minded. I do think, coming back to the basic point here, the force of hyperglobalisation – which surely contributed to anti-inflation pressures – is probably going to be weaker. That I do agree with.
From start to finish, the pandemic will have disrupted life for a year and a half and it’s quite difficult for an economy to survive so long without some form of permanent damage or scarring. Where in the economy do you expect permanent damage and how do we overcome this?
There will be problems to face but, of course, these would have been much more severe without the fiscal policy and monetary policy reaction, which has already been exceptional. Let me point to three areas. One is those sectors that were hit hardest. So, the travel industry, tourism; and then I think, looking ahead, now that we’ve got used to working from home more, also this issue about the future of offices. I’m sure it’s not going to return to where it was. I’m also equally sure the current working from home will not continue in the same way. So, I think there will be big challenges for certain industries.
On the macro level, if you think about employment, workers can move across industries but the experience of so many workers, the fact that so many people have worked less this year, in terms of accumulation of their skills, their experience, the loss of their income, there’s a negative from that.
The last one is that so many firms have lost revenues this year. We know that, with weaker balance sheets, their investment plans for the coming years will be less. Their retained earnings have been depleted. So, there will be scarring effects through those channels.
One difference though, of course, with a pandemic, is that once the pandemic is over, it’s not the case that the tourism industry has permanently lost its desirability. Many people, in fact, will be very much wanting to return to normal holidaymaking, going to restaurants as normal and so on, once it’s fully safe to do so.
We struggled with structural problems even before the pandemic. Europe had low growth, low inflation, weak productivity growth. Is the pandemic going to amplify these already existing structural problems and what is the long-term implication of this amplification for monetary policy?
I’ll give a nuanced answer to that. There’s no doubt that the fight against the pandemic is using up a lot of resources. Those resources, in a different world, could have been directly applied to boosting investment, boosting digitalisation and fighting climate change. In that sense, the pandemic is absolutely a cost which has made it more difficult to make progress on other fronts. On the other hand, we have seen very important structural change this year. In the European context, the fact that we have the Next Generation EU fund agreed in terms of the plan, the focus on that for the next few years, supporting public investment in digitalisation and the green transition. That is an important support for post-pandemic recovery, post-pandemic structural transformation. So, I do think indirectly there have been some innovations this year, which will be helpful after the pandemic.
You of course mentioned the Next Generation EU fund, but that is now held up over political concerns. Do you see a risk that it will not happen or that it will be significantly delayed?
It’s not particularly my job to make political calculations. All we can say is that it’s very important that it gets implemented, that it creates a very strong bedrock of vision for the European economy for the coming years. So, it’s very important that this negotiation concludes with the plan agreed.
Just a few moments ago you hinted that perhaps the ECB’s job is not to lower borrowing costs further but to maintain them at their current levels, and of course President Lagarde and Isabel Schnabel made similar comments. Are we interpreting your words correctly that your aim is not to lower borrowing costs any further but ensure they persist longer?
Let me emphasise the near and medium-term perspectives on that. I’m going to remind you that, in our forward guidance, we do say that we are prepared to lower interest rates, if necessary, to support the convergence of inflation to our medium-term aim. So, in making these comments we are in no way suggesting that we are at the lower bound of our interest rate policy. But what we are emphasising, behind all of these comments, it’s a little bit like forward guidance. We know that the yield curve has drifted down to a low level. The forward guidance says look, you can not only think about ‘if I were to borrow today, what do I see?’. But it is a signal from the central bank that, in terms of the coming period, during this pandemic, we’re going to ensure favourable financing conditions. It provides a lot of reassurance. It reduces the risk of a sudden tightening of financing conditions, it should boost confidence, through that channel, in the same way as forward guidance does via interest rate policy. It’s not just interest rates today but we reassure you that interest rates are not going to rise until there is more pressure on inflation. So in that sense, it’s to provide the forward guidance, to provide the confidence in this world of uncertainty that it’s not the case – you are a firm or a household thinking about borrowing money – that you are going to face any kind of sudden reversal in financing conditions.
Next week you will of course recalibrate your policies and you made it clear the pandemic emergency purchase programme (PEPP) and bank liquidity facilities will be the main instruments of your choice. But the ECB tends to work in packages, so should we expect you to touch other instruments as well or should we expect these two instruments to be the package?
From a policymaking point of view, we’re still nine days away. So it’s way too early to reach conclusions on that because, of course, the world evolves every day. But let me remind you, if you look at some of my speeches and others: we have done a lot of policies this year. Of course, the headline, the big ones are the PEPP and the revision of the targeted longer-term refinancing operations (TLTRO III) programme. But there is a wide array of policies in respect of collateral, in respect of swaps and repos and so on. So, I think it’s important not to infer that we are only looking at two programmes. But what is true is that these two programmes have been very effective ways to respond to the pandemic. It doesn’t rule out any other marginal policy but it does say: look, if these policies have proven to be an effective way to respond to the pandemic, then of course we have to look closely at them in the context of next week’s meeting.
One of these policies was to create a temporary purchase envelope of the asset purchase programme (APP), which was €120 billion but this is of course almost exhausted now. In retrospect, do you see the value in having such an envelope and, going forward, do you think you will still need an envelope for the APP?
This extra APP envelope came in before the PEPP was invented, almost six days earlier. So of course, at many levels, at the margin, in terms of asset purchasing under these pandemic conditions, now that we have the PEPP, you might think that should be the dominant asset purchasing. But it doesn’t rule it out. We always have to take a look at the APP, if is there a value to looking at the APP margin. So, I wouldn’t want to convey any signal about that. But in terms of the design of the PEPP compared with the APP, the flexibility of the PEPP, we think is a very good match for these pandemic conditions.
Isabel Schnabel, who is also an ECB Board member, last week made an argument for the case of returning inflation back to target somewhat more slowly. I don’t want to pit you against Ms Schnabel but in a speech just a few days later you made a very different argument about not being complacent, no delay in increasing inflation. These two statements seem to be contradictory but of course you might just explain they’re not. I’m curious how you reconcile these two views.
Let me offer one basic reconciliation. Isabel Schnabel, in the opening of that speech, made it clear that her speech was in the context of the strategy review. It was not a preview of the December monetary policy meeting, at least that’s my understanding. So these discussions about financial stability, the optimal speed to close the inflation gap, and so on, are all absolutely part of our strategy review and part of the global conversation about how you balance these different considerations as part of a monetary policy framework. She made clear that these are all big issues for our strategy review.
More narrowly, in terms of the current conjuncture, what I’ve emphasised is essentially a two-step approach. So again, it’s not the case that we’re projecting we’re going to hit our inflation aim in the near term. The near-term [goal] is to undo the damage the pandemic has done to the inflation path. So that’s not going to deliver us the inflation aim over our projection horizon. But it’s important to break into steps the overall objective of getting inflation towards close to, but below, 2%. In terms of what we’re doing now, it’s useful to have to focus on saying look, let’s see if we can undo the damage of the pandemic, restore inflation to the trajectory it was on and then, of course, over time, it will be a sustained effort, as it has been since at least 2015, which goes back to the fact that we know it’s important to recognise that we’re going to move towards the inflation aim in a gradual way. But it’s very important that the momentum is there. It’s very difficult to live with a reversal of that momentum, to see inflation dropping. Right now, in the middle of a pandemic, we understand why inflation is so low. But it’s important that this doesn’t get locked in. It’s important that we restore momentum to the inflation path, in order to get us back on that trajectory which, over time and in a gradual way, will bring us to the inflation aim.
The question is, of course, timing. I’m curious, the first step in your two-step approach, what is the timeframe for that?
It remains an intrinsic element of our medium-term orientation that this does not correlate with a fixed calendar. It does depend on what shocks hit the European economy, on what other policies are in place, and so on. I think it’s a mistake to orientate to any one fixed calendar, however frustrating that might be for somebody who is trying to think about that. What I always say is that it’s important that we see the momentum, it’s important that we see inflation move in the right direction. Of course that cannot be immediate; we’re not trying to say that inflation in the first quarter of 2021 will respond to our current policies. But, over the time horizon of monetary policy, we have to see an improvement in the inflation path.
Inflation figures out this week showed a negative reading for the fourth month running, and already in the accounts you warned that negative inflation may persist for longer than you feared earlier. Given the information from this reading and over the last six weeks, are you becoming more pessimistic regarding the inflation path?
No, not especially, because we understand it. Part of it is the German indirect tax cut, which will be reversed. Part of it is, for example, categories which will be most heavily hit by the pandemic, such as tourism, airfares, hotel costs, all of those. Those have taken a big hit. But once the economy recovers then the very low prices in those sectors, which have been the case this autumn, will reverse to some extent. So it’s not so much the reversal of the very low inflation now, it’s going from the 1% tight range, once those are reversed, to bring inflation momentum up from 1 to the mid 1s towards 2. That’s going to be the big challenge.
You briefly discussed the strategy review just before. One of the questions about this strategy is what’s going to be the new inflation target. The Fed of course moved to average inflation targeting last August, and some members of the ECB’s Governing Council are also advocating either average targeting or some sort of make-up strategy. The IMF also said this is something the ECB should be looking at. What’s your view about a make-up strategy?
Time is too short to get into this too much. As we’ve said, no stone is going to be left unturned in this strategy review. All of those issues are definitely part of the strategy review. But let me drill into the key issue. The key issue is: how do you maintain expected inflation at your targeted level when the reality is that you’re going to spend a lot of time away from the target? The different types of make-up strategies are designed in order to support expectations remaining anchored at the target. I think that’s why there’s so much interest in make-up strategies. But also, it’s a matter of logic that there could be a very wide family of different strategies, which basically have the same intent, which is to make sure that medium-term expected inflation remains at the target, even when there are negative shocks. The policies to make all of that consistent, in terms of how you respond when you’re close to the lower bound, how you respond if inflation is temporarily just above the target, all of that needs to be worked through. But this is very much a global conversation. The academic world, the community of central bank economists, everyone is looking at that. But, of course, the precise expression of what is needed in terms of policy to support that could well vary across central banks.
The review is scheduled to last until mid-2021 but there is some talk that the inflation target itself could be agreed upon earlier. When do you think the ECB could communicate the new target?
Right now we’re super busy. We heard this phrase in the Brexit talks about the tunnel. You go into the tunnel and you don’t come out. We’re in the tunnel. Right now the focus has to be on our internal discussions, because whenever we communicate it has to be in a very constructive and structured way. I think that’s down the road. The focus right now has to be on the content of the review itself and we need the time and the space as indicated by that timeline you have. It is going to be the second half of 2021 before we conclude. It’s important we have that time and space to fully consider our new strategy.
Still, should we expect the target to be taken out and communicated earlier? Or do you think it should be one package at the end?
We’re not at the point of discussing that kind of issue. It’s in a very much earlier phase than that.
The Wall Street Journal this week reported that after some policy meetings over the last year you held private conversations with investment banks and economists to explain policy decisions. In retrospect, do you think these conversations, which were one-on-one conversations, if I understand correctly, were appropriate and do you plan to continue having such discussions?
It’s very important whenever policy officials such as myself interact with market participants that it’s done in a very systemic, structured, planned, transparent way. So, in this communication policy, I would have these calls with individual ECB watcher groups – that’s essentially the community. And it’s not one on one, of course, because our rules say it’s important that I am accompanied by staff members in those conversations for transparency and note-taking. This is a long-standing issue of how policy officials should interact with the market. One of the core principles is not to be engaged before we make a policy decision. That’s why we have a blackout period. Once we have made a policy decision, and by the way, the days, especially the quarterly meetings when we have the new projection, even after the press conference we publish the new projections. So it’s in order to see if the information, the new public information that’s come out that day, to see if there are any questions, to hear their feedback. It very much conforms with the key principles of how to interact with the market in relation to already published information. It’s not to front-run future decisions. So, the timing, I think we thought a lot about it. It’s a structured, systematic approach where we rotate across different types of ECB watchers. It’s transparent, it’s in my diary. It’s also true that we should always review and keep in mind our communication policy. It was a deliberate and structured approach in doing so, I think it’s part of a good communication policy. But, of course, we keep that always under review.
Have you scheduled such calls for next Friday?
It’s important, our standing approach right now is to continue those calls. So, the concept of doing it, yes, but the practice is to schedule these calls in the afternoon, in between the press release at 13:45 and the press conference, to schedule calls for later the day.
During this pandemic, much of the economy is sustained by governments and they are taking on a lot more debt. However, in a world of persistently low interest rates, perhaps our understanding of debt should be recalibrated. The Maastricht criteria appear to be outdated. Do you think that in a world of low interest rates, low natural rates, we should think about debt differently than 10 or 20 years ago?
There’s a range of different elements to what you say. There is the European fiscal framework, which is under review. With so many countries away from the 60% debt limit under Maastricht, it’s important that this practical issue is considered in the context of the fiscal framework. Let me emphasise two points. One is that this pandemic has shown the value of having fiscal space. The ability to have a big surge in public debt in a short period of time is more possible if your public debt level returns to a lower level outside the emergency situation. That is an important message. If you want to be able to have a forceful fiscal response, because who knows about future tail shocks like this one, it’s important to recognise that having a bit of spare capacity in fiscal policy is important. That will indicate that it’s important post-pandemic to find a strategy to bring down the debt level.
On the other hand, it’s inescapable that there’s a degree of uncertainty about the real rate, but there are many forces which say that the real rate is structurally lower now than 15 years ago or 30 years ago. Back then, that safe level of public debt could be different.
My third point, which I try to make all the time, is that you have to interpret public debt in the context of the wider economy. This is unlike some classic cycles in the past, where the public debt was the mirror image of a large external debt. By and large, what’s happening now is that there’s no European country running large current account deficits. The macroeconomic effect of high public debt is very different when it’s balanced by high household savings, most directly, compared with accumulating net external debt to foreign investors. So the macroeconomics of debt sustainability is quite different in the situation we have now compared with some of those historical, classic vulnerability cases.
Your debt purchases provided a sort of crutch for governments, who are spending through the pandemic. You are providing a similar type of crutch to the banking sector through your TLTROs – ultra-cheap refinancing operations. However, unlike in the case of the asset purchases, you haven’t made a commitment to keep these going for an extended period of time. Do you think that you will need to do something similar for banks? Is there a need to provide greater guidance on TLTROs or make this facility more permanent?
Everything we’re doing right now is about the pandemic period. It wouldn’t make sense for it to be permanent, in the sense that it’s truly always there, at least in terms of the conditions we have now, which are very supportive of bank lending.
But this goes back to the phrasing we used in the October statement, which is we are here to ensure and to preserve the currently favourable financing conditions. Very importantly, that includes the financing conditions that confront small firms that confront households, i.e. the conditions they have available from banks. The bank credit channel is very important in terms of overall financing conditions. Of course, in terms of thinking about recalibration, that discussion will also be about recalibrating the TLTROs as appropriate.
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