“Inflation rates going in the direction of 5%” Interview in the Frankfurter Allgemeine Zeitung
Interview conducted by Gerald Braunberger.
Translation: Deutsche Bundesbank
Mr Weidmann, you did not vote in favour of the ECB Governing Council’s monetary policy decisions on Thursday. Why was that?
We agree on the ECB Governing Council that an accommodative monetary policy stance is currently appropriate. But in my opinion, the potentially excessively long projection of the future duration of the low interest rate environment went too far.
Eurozone inflation came to a mere 1.9% in June. For many experts, the latest increase is mainly the result of temporary factors that are expected to have petered out in the coming year. Is that an assessment you would disagree with?
Inflation rates will increase strongly, to begin with. For Germany, say, my experts are expecting rates to potentially go in the direction of the 5% mark towards the end of the year. But that is mainly because temporary effects are at play. These include energy and commodity prices and, in Germany, for example, the reversal of the temporary VAT reduction last year. Inflation rates will therefore undoubtedly decline again significantly after that. The future path is uncertain, however.
Do you see any inflation risks in the longer run?
The supply-side bottlenecks of the kind we are seeing for semiconductors might turn out to be more persistent. Catch-up effects because consumption was deferred on account of the pandemic could be more pronounced and give prices a stronger boost. And the initial increase in inflation rates could lead to higher inflation expectations and wage agreements. In addition: if we want to meet the climate targets, there will be no getting around significantly higher carbon prices. That will drive energy prices for many years. What is more, as part of the strategy review we decided, going forward, to incorporate the prices of owner-occupied housing into the consumer price index we use. At present, this raises the inflation rate in the euro area by between 0.2 and 0.3 percentage point. Of course it is possible to take a different view of all these factors, but we do need to keep a close eye on them.
How do you square the upbeat economic outlook for the eurozone with a very high degree of monetary policy accommodation?
We are indeed seeing the economy bouncing back strongly. That’s good news. Looking ahead, this should lead to a higher rate of inflation, but we are also aware that the inflation rate in the euro area has shown little response of late to a higher utilisation of production capacity.
As part of its new strategy, the ECB has also set itself a new inflation target of 2%. Unlike the old inflation target of below, but close to, 2%, this new aim is symmetric – that is to say, negative and positive deviations of inflation from the target are equally undesirable. Does this mean the ECB is opening the door to more inflation?
I don’t see the new inflation target as either a move towards significantly higher inflation rates or a dramatic change of course. Ultimately, the new target is easier to explain. It is also an adaptation to a common practice among central banks.
But from now on, the ECB will also tolerate inflation rates of more than 2%. Don’t you find that concerning?
Central banks don’t have the type of influence over the economic process that would enable them to steer inflation rates with pinpoint accuracy to the nearest decimal place. That’s why a slight, temporary overshooting of the 2% target is just as unavoidable as a slight, temporary undershooting. This isn’t a problem, and is something we agreed on as part of the strategy. What I find important is another aspect altogether. In its strategy, the ECB Governing Council unanimously decided against an average inflation target: if inflation undershoots the target for a while, as we have seen in recent years, this will not be offset by aiming for a rate above the target value in the future.
Many people in Germany say that a 2% inflation target is not price stability. What’s needed, in their view, would be an inflation target of zero.
I believe there is solid academic evidence to prove that it is reliably anchored, moderate price inflation that is optimal from a monetary policy perspective, and not an inflation target of zero. This is connected, amongst other things, to price measurement issues.
And given zero inflation, don’t the very low interest rates also make it more difficult to steer monetary policy? After all, the ECB can’t carry on lowering rates indefinitely.
That’s a very important point. When inflation is low, nominal interest rates are also generally lower, and the lower bound on interest rates is hit faster and more frequently. If policy rates cannot be lowered any further, the main monetary policy instrument would be nullified and, in the worst-case scenario, a deflationary spiral may occur. That is why central banks take very strong action close to the lower bound. Figuratively speaking, this is like a driver doing everything they can to stop their car from getting stuck in the mud. It’s not a situation in which any central bank feels comfortable.
If the ECB is constrained in its ability to conduct interest rate policy, it can always turn to asset purchases.
Yes, amongst other things. But we also need to bear the harmful side effects in mind – particularly if said purchases keep increasing in scale, for example. Asset purchases can have a stronger distortionary effect than policy rate cuts and are fraught with especial problems in the euro area. One aspect concerning purchases of government bonds is that it is important to respect the prohibition of monetary financing of government. I have always advocated keeping an eye on the proportionality of our monetary policy and ensuring that it does not become harnessed to fiscal policy.
The ECB has also committed to a “green monetary policy”. Is this an attempt to boost its popularity?
In July, the ECB Governing Council decided to incorporate climate change considerations more fully into its monetary policy framework. Climate change and the transition towards a more sustainable economy affect the outlook for price stability, may impact on financial market stability and have the potential to spill over to the risk profile of the assets held on the Eurosystem’s balance sheet.
Shouldn’t the ECB be supporting the general economic policies of the EU as long as such support does not conflict with its primary mandate, which is to maintain price stability? Climate action is an objective of the EU.
Price stability is a key prerequisite for successfully pursuing the myriad political aims. In my view, it is important to make it clear where central banks’ boundaries lie. Central banks should not pursue a climate policy of their own. Such decisions are the prerogative of parliament and the government. We should not try to correct presumed policy failure on the part of governments. This would only compromise our independence.
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