“Inflation concerns me” Interview with Die Zeit

Interview with Joachim Nagel conducted by Lisa Nienhaus and Roman Pletter.
Translation: Deutsche Bundesbank

Mr Nagel, do you know what a litre of petrol costs at the moment?

Yes, about €1.70.

That’s right, yesterday's price was around €1.75. Overall, the price of energy rose by 20% in January, while food prices increased by 5%. Can you appreciate that people are worried about whether they can still cover all these costs?

Of course that worries me. Inflation is hitting many people hard and concerns me as the President of the Bundesbank.

Prices for heating and at the petrol pump have become particularly expensive. How would you explain that?

The global economy is in pretty good shape right now, with sentiment reflecting a feeling that the coronavirus pandemic is almost already over. It made an unexpectedly fast and robust recovery from the pandemic-induced slump. That kind of growth spurs brisk demand for energy, and that goes some way towards explaining these price increases. On top of that, there is the critical geopolitical situation between Ukraine and Russia. One key question for monetary policy is whether, and to what extent, energy prices will decline again.

The ECB argues that energy prices are the main driver of inflation, which it can’t do much about. Do you share this view?

If energy prices fluctuate strongly for only a brief time, monetary policymakers will do well to exercise restraint. That said, there are signs that the rise in energy prices could be more persistent, that it is affecting the prices of other goods and services, and that mounting demand is also behind it. Furthermore, the inflation rate is not driven by energy prices alone. Half of the current high inflation is driven by energy prices. We need to look at the other half as well. That’s where there are some things we can do as central bankers. We should not ignore the fact that for years now we have been supplying markets abundantly, over-abundantly even, with liquidity because the inflation rate was too low for long.

The ECB’s main task is to ensure price stability. Has it failed?

It certainly hasn’t failed. It now faces a new acid test, a different one, than it did in the pre-pandemic low inflation setting. If one looks at the inflation figures and the macroeconomic setting, we have reached a point that is a textbook case for central bank action. The ECB now needs to step up. We will look at the data – new growth and inflation forecasts are coming out in March. And that will be the basis for our decisions. If the inflation picture and above all the outlook has not brightened significantly by then, we will have to recalibrate the monetary policy stance.

What do you mean exactly when you say “a textbook case for central bank action” in this situation? Increasing interest rates?

We have clearly defined the sequence in which we shall act, should we be required to do so. First we exit the net asset purchases, then we raise the key interest rates.

Why not raise key interest rates first?

I think it is important that there is a consensus in the euro area to first roll back the measures we adopted last in the crisis. The asset purchases involve greater risks and side effects. That is why they were not adopted until late in the day. And that is why they should be the first measures to be stopped again.

If you had been in office sooner, would you have pushed for higher interest rates earlier?

I have only just taken office. There’s no point in looking in the rear-view mirror. The ECB Governing Council did an important job, a good job, during the coronavirus phase and before that. Now, as central bankers, we can start withdrawing from the non-standard monetary policy of the past years with its very low interest rates and its asset purchases.

Last week was the first time you attended an ECB Governing Council meeting as the President of the Bundesbank. How was the inflation topic discussed there?

Let me first of all say that I was given a warm welcome. I found it fascinating to experience first-hand how topics are discussed. In spite of the diversity of opinions, all the members of the ECB Governing Council are aware that price stability is our key objective. And of course we discussed inflation.

Did anyone at the meeting argue that key interest rates should already be raised?

Christine Lagarde summarised the meeting as follows: there was a broad, multifaceted discussion on inflation risks and ultimately a consensus that we would revisit our monetary policy stance in March.

You sound like you pushed for the ECB to act quickly.

I am very aware of the risks we will take if we wait too long with the normalisation of monetary policy. The social dimension of inflation was a point I already addressed in my inaugural speech. As I see it, the economic costs are significantly higher if we act too late than they are if we act in good time. Past experience supports this view as well. You see, if we act later we would have to raise interest rates more substantially and at a faster pace. Financial markets would then respond with greater volatility.

Do you fear a crash?

If we wait too long and then have to act more forcefully, the market fluctuations may be stronger.

The transformation towards renewable sources of energy will perhaps cause energy prices to rise over the longer term as well. Does this “greenflation” worry you?

Nagel: The very high energy prices right now cannot be explained primarily by climate policy measures. If the economy is put on track for an ambitious transformation process, that can, however, lead to persistently higher prices. We often used to assume that energy prices recede again from a peak because it was only due to a brief case of scarcity that can be alleviated. Things might be different now due to the greening of the energy supply. We will need to be all the more alert.

You have only recently taken office. Tell us, is your salary pegged to the inflation rate?

No.

That might have been a wise move.

I disagree. Here at the Bundesbank, we never have been, and never are, keen on the idea of pegging wages to inflation rates. You see, that keeps the risk of self-perpetuating inflation alive: indexation means that rising prices push up wages, which in turn causes prices to rise, and so on.

That price-wage spiral can happen without indexation, too. Does that worry you?

That is a risk if inflation remains high for a long period of time. As a central bank, we take this risk seriously.

That all sounds very abstract. But for many people, it’s very much a real-life problem if their money doesn’t go as far as it used to. Is it credible right now to advise people and trade unions to show restraint in their demands for higher wages?

Of course I understand that people worry when things get more and more expensive. But it’s not my job to give the trade unions specific advice. As central bankers, we need to deal with the outcomes of the wage negotiations. What is more, Germany isn’t alone in this. A number of euro area countries have significantly higher inflation rates, some even in the double digits.

Are there any countries in the euro area where wages are already following suit?

It is too early to say for sure at this point. But if inflation remains high for longer, the probability of second-round effects materialising increases. From today’s perspective, Bundesbank experts think it is likely that average inflation for 2022 in Germany will be significantly above 4%.

Inflation will be above 4% for 2022?

Yes.

You’re a member of the Social Democratic Party (SPD). Have you spoken to the Chancellor about this?

That’s correct, I’m a card-carrying SPD member and have been for over 30 years. But that’s got nothing to do with my role as Bundesbank President. I recently attended a cabinet meeting for the first time, when the Annual Economic Report was presented. I naturally used that occasion to express my concerns about inflation developments.

German government departments have started making support payments to help some households affected by the rising prices. Is that a good idea?

German politicians certainly are not alone in considering such options. Other countries have already agreed on relief measures. I can appreciate that politicians are addressing the social repercussions of the high rate of inflation at the moment. They are setting their priorities in this regard as they see fit.

Yes, but monetary policy has to tackle the fallout. Lowering the tax on energy prices can lead to a further increase in inflation.

It was always the case that political decisions impact on monetary policy. If politicians act and their actions do indeed impact on inflation, we will bear that in mind in our deliberations.

What is your message for people who blame the central bank for their diminishing purchasing power?

I would explain the reasons for the high rate of inflation at the moment. No doubt, the loose monetary policy has buoyed demand. But there are many other factors besides that which are pushing prices higher. Our responsibility is to make sure the high inflation rate does not become entrenched over the medium term.

The ECB has kept interest rates very low for years and purchased bonds on a huge scale. And yet you think this doesn't have much to do with inflation?

Price pressures were too weak in the past years. That is why our monetary policy has been very accommodative to date. The inflation rate has risen significantly since last summer. There are many reasons for that which have nothing to do with monetary policy: the pandemic, supply bottlenecks, the geopolitical situation. Now, however, there are signs that we need to change tack: many countries are starting to loosen their pandemic containment measures. The economy is recovering. Labour markets are looking good. That’s an encouraging picture. That is why monetary policy can become less accommodative.

Some economists say the price increases are mainly down to the supply bottlenecks, but that's something the central bank can’t fix. Have they got a point?

Of course we can’t relieve the congestion at ports or move shipping containers to where they’re needed. However, the supply bottlenecks have also come about because of the unexpectedly quick and robust uptick in demand. And if the bottlenecks linger on and inflation remains high for long, they could also have a bearing on longer-term inflation expectations. The temporary price pressures could persist via such second-round effects. That’s something monetary policy has to prevent.

Many euro area countries have very high levels of debt. Up till now, the ECB has bought up many of these debt instruments. Are you worried the sovereign debt crisis might flare up again if it stops doing that in the future?

Nagel: What is true for monetary policy is also true for fiscal policy – many things will have to change once the pandemic is over. When we put the crisis behind us, it will be time to scale back the high general government debt ratios and thus replenish buffers. Germany in particular is a good example of this. Before the pandemic, the country’s budgetary position was very sound. That then opened up scope for extensive support measures in the crisis.

France wants to raise the debt ceiling under the Stability and Growth Pact instead. Under those rules, euro area countries have to keep their public debt at or below 60% of their gross domestic product.

We mainly need to think about a clearer, simpler and stricter commitment to the rules. The rules need to be better at ensuring that high general government debt ratios are reduced.

Why is that so important to you?

Because they often weren’t complied with in the past. Germany has not always stuck to them, either. I think it would be appropriate to have more robust rules going forward, with less scope for circumventing them.

Economists like France’s Thomas Piketty have come up with a different idea for reducing the euro area countries’ debt: the ECB should cancel it.

That’s no different than monetary financing of governments – that is, printing money to fund government spending. The ECB is prohibited from doing that. I disagree with that proposal.

Let's look into the crystal ball. When will inflation decline again in Germany?

It’s not a matter of predicting the future. In our forecasts we currently expect inflation in Germany to only decline discernibly in the second half of 2022, but it will continue to be too high. I am, however, convinced that monetary policy will manage to achieve its objective of 2% inflation over the medium term.

Christine Lagarde is no longer ruling out the possibility that interest rates could rise before the end of this year.

That’s right. If the picture remains unchanged in March, I will be in favour of normalising monetary policy. The first step is to discontinue the net asset purchases over the course of 2022. Then interest rates could be raised before this year is over.

How do you get on with Christine Lagarde?

My interactions with her are very good. And I think she is doing an excellent job.

Some complain that she’s not an economist. Does that bother you?

No. Even as an economist, one does not always immediately have a brilliant answer to every single question on monetary policy. It is important for many different skills to come together on the ECB Governing Council.

Perhaps theologians would sometimes be better qualified for the central bank than economists.

That’s something I would rather not comment on. But in any case, a body like the Governing Council draws strength from its members’ varied backgrounds. I originally wanted to go into medicine. That might be useful in the world of monetary policy as well: after all, physicians first conduct a thorough examination and then prescribe the right course of treatment.

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