Acceptance speech on being awarded the "German Media Freedom Prize"
Speech held at the 2018 Ludwig Erhard Summit Meeting
- 1 Welcome
- 2 The mandate of monetary policy: price stability
- 3 Understanding savers’ concerns
- 4 Scepticism about government bond purchases
- 5 Monetary policy outlook
Minister of State Aigner
Ladies and gentlemen
Thank you for inviting me to this ceremony. Indeed, I feel greatly honoured to have been awarded the Media Freedom Prize and would like to express my thanks to Minister Aigner for her very kind words.
If someone had told me around 30 or 35 years ago that I would one day receive a prize that was previously bestowed upon a former General Secretary of the Communist Party of the Soviet Union and then the Chairman of the German Bishops’ Conference before now, third, receiving it myself, I would certainly have been puzzled by the idea. What kind of career path would I have had to follow to be awarded such an honour?
Had I additionally been told that the prize in question is one dedicated to the principle of freedom, my astonishment would have been even greater.
Be that as it may, it is pleasing to note that my efforts to ensure a stable currency and to promote an enduring stability-oriented currency union have been deemed worthy of a prize. I view this prize as a vote of confidence and a source of support in further pursuing my efforts and the work of all those like me who are committed to maintaining price stability.
As Fyodor Dostoyevsky commented in his work "Notes from a Dead House", in which he writes about the conditions in a Siberian prison camp, "Money is coined liberty".
In the parallel world that exists in such a camp, money is the albeit strictly forbidden means by which the inmates secure small freedoms such as tea, tobacco or hard liquor. Owing to the constant risk of robbery or confiscation, such money is unsuitable as a store of value and has to be spent as quickly as possible.
But Dostoyevsky’s observation also applies to our own world. In contrast to the situation described in the prison camp, we are at liberty to decide whether we save the money we have in our pockets or spend it straight away, provided, of course, that we have sufficient funds at our disposal. Perhaps you have heard the saying, "
I’ve always had a distant relationship with money – we were never together in the same place". Anybody in this position, naturally enough, has limited options when it comes to putting a little money aside on a regular basis.
That said, the freedom we are afforded by possessing money hinges on that money retaining its value. Maintaining a stable currency is therefore a cornerstone of our competitive economic system. As Ludwig Erhard wrote in his book "Wohlstand für alle" (Prosperity for all), "
The social market economy is unthinkable without a consistent policy of price stability". And, as you are aware, it is the central banks’ task to implement such a consistent policy of price stability.
2 The mandate of monetary policy: price stability
In the case of the Eurosystem, this is in fact its primary task. The European Central Bank and all the euro area national central banks are mandated with ensuring price stability. However, the EU Treaty is silent on the issue of what precisely is meant by price stability. Hence, when the ECB Governing Council commenced its work roughly 20 years ago, one of its very first tasks was to define this term.
In line with its quantitative definition of price stability, the Governing Council aims for an increase in the consumer price index in the euro area of below but close to 2 per cent in the medium term. Such a target definition is not least designed to provide the general public with a verifiable yardstick and general guidance for their expectation formation. For we monetary policymakers know that, so long as the public believe central banks’ promise to safeguard stability, and provided inflation expectations are firmly anchored, it is easier for us to ensure that the inflation rate does not deviate strongly from the figure and, when it does, then only temporarily.
In the aftermath of the crisis, the euro area inflation rate has now fallen well below the target figure of below but close to 2 per cent, and at times it has even dipped slightly into negative territory.
Concerns about a deflationary downward spiral of falling prices and wages prompted the ECB Governing Council to greatly ease its monetary policy stance. Overall, the policy rate was cut to zero per cent and the deposit facility rate was even allowed to enter negative territory. Moreover, it initiated an extensive asset purchase programme, all with the aim of bringing inflation back swiftly to somewhere in the region of 2 per cent. Incidentally, I have never shared such concerns about deflation, but I’ll come back to that later.
A fair number of those gathered here tonight will wonder why the Eurosystem is taking such an expansionary path towards creating inflation when its actual job is to safeguard price stability. I have to admit, the situation does remind one a little of the joke about two elderly ladies at a mountain resort told by Woody Allen at the start of his film, "Annie Hall", where one says to the other: "
Boy, the food at this place is really terrible" and the other says: "
Yeah, I know; and such small portions".
Even so, there are quite reasonable grounds to aim for a moderate inflation rate and not for zero inflation.
Statistical measurement problems are one such reason, because inflation can be measured fairly accurately, but not with absolute precision. Distortions in the price statistics mean that the official inflation rate tends to overstate the actual loss of monetary value. As a result, the weighting pattern and the basket of goods used by statisticians, for example, always lag somewhat behind real consumer behaviour. Price statistics must also take into account the price-increasing effect of quality improvements. Today’s Golf VII is indeed more expensive than the 1974 Golf I, but then it is also a much better car. Even though there has been obvious progress in the quality adjustment of prices and the measurement of inflation thanks to shorter intervals between updating the composition of the basket of goods, the statistical overestimation probably still amounts to a few tenths of a percentage point.
Many years ago, Hans-Werner Sinn put forward another reason, which he described as follows: "
Inflation is an economic lubricant. Too much oil in the engine makes the spark plugs sooty; not enough causes piston seizure." Excessively high inflation comes at a high economic – and social – cost, which is why the oil should be applied sparingly.
High price inflation rates mean that prices can no longer perform their key function as effectively as an indicator of supply and demand. This then makes it more difficult for enterprises and consumers to identify whether a price increase is the result of higher demand or reduced supply, or whether the price has merely increased as a result of general inflation.
Then again, the oil must not run out, either, or else the engine will get clogged up. If an industry or economy has suffered a loss of price competitiveness, it can offset this loss by making wage cuts, for instance. Given zero inflation, nominal wage cuts would have to be made. In practice, though, these are difficult to implement, because who actually wants to work for less money in their pocket?
But there’s yet another reason why an inflation rate of zero is less than ideal. Figuratively speaking, low inflation means monetary policy not having enough water under its keel. It risks bumping up against the zero lower bound with its policy rates during economic downturns. Monetary policymakers then have to resort to non-standard policy measures, which have significantly more inherent side effects – for example, because they intervene very strongly in market economy price-formation processes.
Apart from that, the other major central banks are also aiming for a low but positive inflation rate. Even the Bundesbank had a price norm of 1½-2 per cent in the days of the Deutsche Mark, and academic studies on the optimal inflation rate also come to the conclusion that an inflation rate of "just under 2 per cent" represents a good compromise between the permanently accruing costs of inflation and the occasional benefits of having a greater safety margin to the zero lower bound.
What’s more, the ECB Governing Council has deliberately defined price stability as a medium-term goal. The desired inflation rate of below, but close to, 2 per cent does not have to be achieved immediately and at any cost. To my mind, this gives us room for manoeuvre in times such as these, when, for good reason, it takes somewhat longer for the inflation rate to return to the desired level – but I will come back to that point in a moment.
3 Understanding savers’ concerns
I’m nevertheless well aware that savers feel pinched by the accommodative monetary policy and low interest rates. A key incentive to accumulate savings has disappeared, although this has not yet led to a decline in the saving ratio in Germany.
To quote former ECB President Jean-Claude Trichet, however, it is not the ECB’s mandate to aim for an interest rate that pleases everyone. The mandate of the ECB is to maintain price stability.
Anyway, there is no such thing as an interest rate that pleases everyone. Those in need of loans, whether they be property buyers or businessmen, are likely to take a more favourable view of low interest rates. Aside from this, low interest rates also help to make jobs more secure, which benefits employees. Public sector budgets, too, benefit from favourable financing conditions. Compared with the interest rate level back in 2007, euro area countries have collectively already saved considerably more than one trillion euro in interest payments.
Savers who are annoyed by deposit interest rates in the range of less than one tenth of a percent should also bear in mind that nominal interest rates are indeed at an all-time low, but that there have been many times in the past when real interest rates on particularly safe savings were negative. Between 1971 and 1994, the real rate of interest on households’ short-term savings deposits in Germany was in fact negative more often than it was positive.
Moreover, households use to other forms of investment, such as insurers or investment funds. Not only was the real return on total financial assets still clearly positive in 2014 when the ECB Governing Council reduced the main refinancing rate to almost zero per cent, it was only slightly lower on average than the return of the previous years since the introduction of the euro.
Also, the influence of central banks on interest rates should not be overestimated. Of course, monetary policy steers interest rates at the short end, but at the long end, other factors are more significant.
One of the main reasons the term structure is so flat in the current environment is that the Eurosystem’s unconventional measures are being targeted directly at the longer end of the term structure. The Eurosystem’s massive asset purchases are depressing capital market rates. However, the low long-term interest rates are also a reflection of diminished growth expectations.
The low interest rate is therefore attributable to weaker growth. In fact, comparing the average growth rates of the past few decades, it becomes clear that the general growth trend is pointing steadily downwards – not only in the euro area but in all the developed economies.
Persistently higher interest rates thus hinge on a more growth-friendly policy. However, improving the outlook for growth is a task for economic policymakers, and not the central bank.
In Germany, growth prospects are being dampened in particular by the demographic trend. This makes it all the more important to create the right conditions for higher potential growth.
The upcoming official coalition talks should therefore not just be about how to distribute the existing cake, but also consider how we can make the cake bigger. To quote Ludwig Erhard once more: "
The solution lies not in the division but rather the multiplication of the national product."
4 Scepticism about government bond purchases
Ladies and gentlemen,
I have taken a critical view of the Eurosystem’s large-scale purchases of government bonds I mentioned earlier, as I consider this instrument to be fundamentally problematic in a monetary union, and also because, although monetary policy should indeed be taking an accommodative stance at present, it is still quite possible to have different opinions on how hard we should be stepping on the monetary policy accelerator.
Government bond purchases blur the line between the single monetary policy and fiscal policy, which remains largely autonomously within the remit of individual member states. They are shielding governments from the disciplining effects of the capital markets, thereby reducing the pressure to act. The fact that the drive towards consolidation in the euro area countries of the past few years has been losing momentum is likely to be a consequence of this.
Admittedly, according to the calculations of the European Commission, hardly any euro area country has broken deficit rules in recent times. However, on balance, in many euro area countries it is only improved economic activity and lower interest payments that have played a part in this.
The Eurosystem is now the largest creditor of its member states. This development harbours the risk of politicising monetary policy. I believe that, at most, government bond purchases should be an emergency measure to stave off deflation. However, even when the bond purchases began, I considered this risk to be minor and, since then, it has disappeared entirely.
5 Monetary policy outlook
We can, of course, assume that the ultra-accommodative monetary policy has positive effects on economic activity and prices, even though it is difficult to quantify this exactly.
And, against the background of only gradually increasing inflationary pressures in the euro area, every member of the ECB Governing Council is in agreement that an accommodative monetary policy is necessary for the time being in order to support domestic price dynamics.
In that regard, however, I am highly optimistic, as the euro area economy is currently seeing noticeably robust growth. Economic growth is at its strongest in ten years and employment in the single currency area has reached a new record high. According to current Eurosystem staff projections, it is also expected that the economic upswing we have been experiencing over the past four years will continue in the years to come. Accordingly, growth rates of around two per cent are projected for this year as well as the next two years.
The labour market situation in the euro area will also go on improving along with the upswing. In fact, in some parts of the euro area, we are now already witnessing a looming shortage of labour. All of this may contribute to pay settlements in the euro area accelerating more strongly again, which will then cause domestic price pressure to rise as well.
The domestic pressures on prices identified in the projections are therefore quite consistent with a path towards the ECB Governing Council’s definition of price stability. And that is why I believe that a swifter end to the net asset purchases with a clearly communicated end date would have been entirely justifiable.
Although this would perhaps have somewhat delayed the rate of inflation returning to its target range, this would not have been so bad because, as I have already pointed out, price stability is quite deliberately defined as a medium-term goal.
This is all the more true, as the positive effects of the ultra-accommodative monetary policy on economic activity and prices diminish the longer non-standard measures remain in place, while the unwanted side effects tend to increase. One of these side effects is, say, that exaggerations can occur in individual asset market segments due to an increased risk propensity on the part of financial market participants – on the property market, for example, which is why some euro area countries have already taken what are known as macroprudential measures to stem the rise in loans for house purchase.
In addition, the ongoing low-interest-rate setting places strain on banks’ profitability. As only very few banks are able to pass on negative interest rates to their customers, the margins from interest business have shrunk even further.
Banks, incidentally, would then have to bear an especially heavy burden if the long period of low interest were to be ended by a sharp, rapid rise in rates. Banks that are heavily dependent on interest business could then suffer from a form of the bends: if a diver surfaces from a great depth too quickly, dangerous symptoms can occur. This means it is all the more important for banks to equip themselves for interest rate risk.
As far as central bank rates in the euro area are concerned, the direct interest rate is, admittedly, minor at present. After all, the ECB Governing Council has made it unmistakably clear that interest rates will remain at their present levels for a long time to come and well past the horizon of the net asset purchases. And, as you know, asset purchases will continue at half their previous volume until at least September of this year.
However, monetary policy will remain very accommodative even after the net purchases have ended, as the ECB Governing Council has also decided to reinvest the proceeds from maturing bonds. This means that the substantial holdings of securities will remain on the balance sheet until further notice.
Complete normalisation of monetary policy will be a lengthy journey. This makes it all the more important, ladies and gentlemen, to travel this path resolutely, if the price outlook permits. I shall be standing up for this in the future, too, and I am delighted to be able to accept the Media Freedom Prize to accompany me as moral support.
I would like to offer my sincerest thanks both for this award and – after a long conference – for your attention as well.