Joachim Nagel ©Frank Rumpenhorst

Nagel: Interest rates need to rise further, and significantly at that

Interest rates need to rise further, and significantly at that,Bundesbank President Joachim Nagel has said in an interview with the German newspaper “Süddeutsche Zeitung”. Interest rate hikes can have a dampening effect on economic developments in the short run, he explained, “but by raising rates we are safeguarding price stability in the medium term and preventing our growth potential from being damaged by inflation. After all, persistently high inflation is the biggest drag on growth.” Initially, though, the Bundesbank President said he is still expecting inflation rates to remain significantly above 2%. Rates this year are likely to be more than 8% in Germany and also in the euro area, he noted. For 2023, the ECB is expecting inflation to come to 5.5% for the euro area, he reported, and in Germany, he sees a realistic prospect of a six before the decimal point. 

The price stability objective

It is the responsibility of the Eurosystem – i.e. the European Central Bank (ECB) and the national central banks of the euro area Member States – to maintain price stability in the euro area. The ECB Governing Council, of which the Bundesbank President is also a member, considers that price stability is best maintained by aiming for a 2% inflation rate over the medium term.

According to Mr Nagel, this high inflation is largely being driven by external factors, but is now affecting a large portion of the basket of goods. He said the main driver of the high energy prices is Russia’s war of aggression against Ukraine. “We have an energy price shock, the impact of which we can do little to change in the short term,” he pointed out. “But we can prevent it from spilling over and thus becoming broadly entrenched. In this way, we would crack the inflation dynamics and bring price developments towards our medium-term objective. We have the tools to do this, particularly interest rate hikes.” In the interview, Mr Nagel expressed his confidence that the Governing Council of the ECB would prevent the high level of inflation from becoming entrenched, but said this will require sufficiently strong and swift responses. The next few meetings of the Governing Council need to send out clear signals. When asked when Germany can expect to see 2% inflation again, the President replied that the Bundesbank’s forecasts for 2024 predict an inflation rate of 2.3% for the euro area. “It’s not enough. But it would be a big step in the right direction,” Mr Nagel said. The Bundesbank President considers it right for political measures to provide support given the current high energy costs. In this regard, he said, it is important that assistance be targeted at households and firms which run into financial difficulties, without blocking incentives to save energy. Even so, he continued, the price increases cannot be offset entirely, and the energy price shock will make Germany poorer. Ultimately, the energy supply needs to be increased and demand for energy curbed – this will dampen inflation. “Given an appropriately designed programme, I would have no additional concerns about inflation,” he said, referring to the programme worth up to €200 billion put together by the Federal Government to tackle the energy crisis.

As things stand today, I do not expect a wave of insolvencies

In the interview, Mr Nagel also commented on the outlook for the German economy and the domestic labour market. According to the Bundesbank President, Germany is heading for a recession, but he currently believes it will not be a deep slump. The outlook at the beginning of the year was very good, he noted, mainly thanks to the phasing-out of coronavirus mitigation measures and the gradual easing of supply bottlenecks. For 2022 as a whole, the Bundesbank is therefore still expecting economic growth of between 1.3% and 1.5%, with a flat path in 2023. “The war has drastically changed the situation,” Mr Nagel said. The labour market is very robust at present, but he expects unemployment to rise temporarily. However, the poor economic situation will have far less of an impact on the labour market than it did 20 years ago, when the unemployment rate had hit 11%. As things stand today, the Bundesbank President is not anticipating a wave of insolvencies either, although higher insolvency figures are expected at times.