The ECB reshapes its monetary tactic: more sustainability with more inflation

A more flexible inflation target, greater transparency, the vigilance of the stability of the markets and ecological parameters will govern euro interest rates.

” There is a tragedy on the horizon that seriously endangers the prospects of businessmen, politicians and technocrats “, so” the authorities of financial supervision agencies, we must initiate a dialogue with environmental experts and institutions to find immediate solutions. With these words, the Governor of the Bank of England (BoE), Mark Carney, described in a recent conference before the British banking community at the end of last year, the urgent need to undertake transcendental changes in terms of monetary tactics. And he did it explicitly: “Each cause needs its leaders”, so central banks “have to make efforts to understand the core of the problem and avoid any superficial discussion that does not contribute to the sustainability of actions” against the emergency climatic, he emphasized.

The challenge is in the market. Analysis such as the Boston Consulting Group (BCG) are more than eloquent. From this consulting firm, companies and financial entities around the world are urged to “evaluate green projects and provide them with persevering investment injections”, capable of persuading their shareholders that their disbursements are directed to specific and cutting-edge initiatives in technology, modernization industrial and that they have a “high potential” to create profits. In short, re-design a monetary tactic as demanded by the ECB. “They must think creatively and strategically” and convey the idea of ​​the need to consolidate ” a large global green market”. For which, its experts admit, an atmosphere of low interest rates is needed, like the one that the main central banks have established since, last spring, the Federal Reserve began the path of a new and gradual cheaper money. In fact, several central banks, such as the British or the Bundesbank, admit the threat that climate change is causing on economic dynamism and financial stability and promote credit initiatives in favor of the climate.

External factors

The losses from weather events and other atmospheric catastrophes, such as fires or earthquakes, exceeded 160,000 million dollars in 2018. At BCG they emphasize the convincing efforts that company executives and managers must carry out in emerging markets where they have commercial interests, because “getting these countries to adhere to ambitious energy neutrality targets will also be crucial.” The IMF and the OECD have served as transmitters of green projects among nations that do not have the status of high-income economies. Within a worldwide concerted action that establishes energy neutrality measures. Because the price of not acting, they explain in BCG, is too high. World GDP per capita would decline by 30%. Against the rebound of one percentage point each year, until 2015. Before specifying that the costs of moving towards this new paradigm, proclaimed by the doomsayers – or deniers – of climate change, “is highly overrated.” From McKinsey, they point to the juicy pie of implementing respectful or environmentally friendly strategies as a monetary tactic: 26 billion dollars of new business until 2030.

Under these premises, the ECB has taken the initiative among the large central banks. Or, put another way. Among the issuing authorities of the industrialized spectrum. With the momentum of its newly chiseled scorecard. The strategic plan of its president, Christine Lagarde, leaves behind the mission that the ECB has pursued in its 16-year history. Because of its master lines, a more predominant role of the institution is revealed. The head of the European monetary authority herself has revealed that the effects of climate change will occupy a prominent place in the diagnosis of inflation and financial stability, to which will be added a more transparent and precise communication policy on the deliberations and decisions of the Governing Council of the ECB.

New directions

The BoE is also in these difficulties. In the paradigm shift of his monetary tactic. In a direction clearly aimed at absorbing greater doses of flexibility. The Federal Reserve has joined in this dynamic and will reveal its new policy in the middle of this year. The ECB has already started this road map after recognizing that its inflation target of 2%, included in its founding statutes by the demand of Germany, to which the market consensus has always attributed a historical obsession to avoid episodes of hyperinflation such as the one that reigned in the now largest economy of the euro in the interwar period – the most rigorous and accepted of all the central banks on the planet, has not been achieved in several of its years of life. Despite the advances in the economic homogenization of its partners, the leap in innovation and the billions of euros with which it has nurtured the financial system. Hence, Lagarde has chosen to outline the changes in his recent testimony before the European Parliament, which has generated an open debate among members of the bank’s politburo.

In short, the Lagarde plan will address six notable modifications. First, the inflation target. The statutory mandate decided in 2003, says that the evolution of prices “must be contained below, but close to 2% in the medium term.” Too vague a definition in times of low interest rates. Although the debate is open. Governors such as the Bank of Austria, Robert Holzmann, believe that if inflation is around 1.5%, interest rates should already rise, while his Dutch counterpart, Klaas Knot, suggests using a fluctuation band around the current goal, and with an eye to the medium term. That is, without there being immediate movements in the price of money. In any case, the die is cast. Because voices like that of the former US Treasury Secretary, Larry Summers, echo the “excessive concern about inflationary control” which, in their opinion, “is a serious mistake”, because “price rises are not, by far, the priority risk” of large economies. The most pressing issues, he says, are how to maintain dynamism and achieve full employment. “The economic contraction will happen and when it does, another new race to cut interest rates will begin, but due to these monetary decisions – the rigorous inflation target – there will be no room for maneuver to light the fuse of a new business cycle” . Summers justifies it as follows. In the last 600 years, the average rise in world inflation has barely been 1%, while the price of money has been close to 5%. And, even, it is even asked: Who chose the 2% range as the maximum limit to declare an economy in an inflationary state? The Fed, unlike the ECB, for example, has an undetermined CPI target – around 3% – and in the discussions of its transcendental Open Markets Committee, they also assess determining aspects to determine rate increases or decreases, such as economic dynamism or job creation in the US. From outside the ECB, among economic analysts, there is an impact on the corset that is the inflationary goal of 2% in Europe.

Second dilemma

The second dilemma that the ECB is rethinking is the measurement of inflation. Study if the evolution of prices provided by Eurostat, the European statistical office, is appropriate. Amid doubts among the community of economists about whether it underestimates its real growth; specifically when determining the cost of housing. Any transformation at this point is crucial. It should be handled with caution and away from any abrupt movement. But, at the same time, it is a crucial matter for the institution’s executive committee to get reliable data.

A review of the mandate.

The third point of friction. Price stability is included in the Union’s own treaties, which implies the approval – or disapproval – of the partners in the European Council. Although it is something doable. After all, the Federal Reserve incorporated the three objectives – IPC under control, approach to full employment and economic vigor – already in 1977. And Lagarde has pointed out his desire that, in a presumably second term in the institution, the statutes of the ECB are supported by “general economic policies”. Which, in the eyes of François Villeroy de Galhau, governor of the Bank of France, means more linkage of the bank’s monetary instruments to financial stability.

monetary tactic

Climate change.

The President of the ECB believes that it is the right time for the institution’s support for sustainability to be reflected. The head of the Bundesbank, Jens Weidmann, whom the market describes as a hawk of German monetary rigor, is one of those who warn against the dangers that the stimulus programs -Quantitative Easing (QE), which have dominated the era of Mario Draghi in his eight years as head of the European monetary authority and which, in his opinion almost unanimous of the market, saved the very existence of the euro after the crisis of 2008- restrict the emissions of corporate debt of polluting companies, which would create – he says – conflicts in the stability of prices. Weidmann has been the architect of the nomination of Isabel Schnabel and Fabio Panetta as new members of the governing body of the ECB. Both supporters of discarding this greenway from the discussion table. However, the turnaround of the German Government and, therefore, of the Community Executive, in favor of multimillion-dollar investment funds towards the productive conversion of consumers and companies aimed at the energy transition and, above all, the growing awareness not only social but also of the market towards sustainability can change your opinion. Among other reasons, because the recognition that the climate catastrophe must be incorporated into the chessboard of central banks is increasing. And there are market suggestions that its risk affects economic forecasts and pressure for rating agencies to include it in their debt impact assessments, in addition to promoting corporate investment portfolios in green projects. Not by chance, the slab of debt is becoming increasingly heavy. The combined accumulation of sovereign -state- debt levels, private – financial and business firms – and households has reached a record figure of 250 trillion dollars, almost three times the value of world GDP. And the options to revitalize the economic dynamism under these monetary corsets go through going to the market to continue borrowing with the current cheap money. This debt ratio is historical, to the point of equating to $ 32,500 for each inhabitant of the planet.

The challenge of communication

is the fifth scale. The protocol of action with which to transmit to public opinion – companies, banks, markets and citizens – the decision-making of the ECB, with the publication of the result of votes of its executive committee. A kind of standard procedure that deviates from current consensus agreements and that prevents the identification of members of the bank’s governing body as supporters or opponents of the measures. Faced with this approach, critics argue that it would act against the independence of judgment of each representative of the ECB’s engine room and would add political pressure to choose one side or the other on the issues for debate.

The last component of the new monetary policy has to do with the precise diagnosis of the instruments held by the ECB. Draghi, upon taking office in June 2011, assumed an unpredictable outlook, with massive purchases of assets abroad, negative interest rates, and long-term bank loans, many of them classified as toxic. The horizon on which Lagarde’s so-called ECB Financial Stability Review will have to grapple is not much less bleak. In this sense, the ECB wants to cover the limits created around its sovereign and corporate debt acquisition programs, which since June 2015 put between 2.6 and 3 trillion euros in circulation to alleviate public and private indebtedness and end with the deflation and stagnation that plagued the euro area, until its final folder, theoretically, was witnessed in January 2019. Lagarde seeks more flexibility and believes, also in this case,

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