Willem F Duisenberg: The first lustrum of the ECB
Speech by Dr Willem F Duisenberg, President of the European Central Bank, at the International
Frankfurt Banking Evening, Frankfurt, 16 June 2003.
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Introduction
It gives me great pleasure to address such a distinguished audience today; even more so as it is not
the first time I am speaking at the International Frankfurt Banking Evening.
On 1 June of this year, the ECB celebrated its fifth anniversary. Hence, In my speech today, I will
focus on two topics. First, I will discuss some lessons from our experience of monetary policy in the
euro area during the first five years of the ECB. Second, I will look ahead and elaborate on ongoing
developments in the context to the Convention on the Future of Europe, which aims to lay the
foundations for a Constitutional Treaty for the European Union.
ECB monetary policy-making in perspective
Starting with our experience of monetary policy, and, of course, speaking as an impartial observer, I
can say that I am very satisfied with how the Governing Council of the ECB has functioned over the
last five years in fairly difficult circumstances. Indeed, a lot has happened and it must be said that the
first lustrum of the ECB was a fair "baptism of fire". I am not going to bore you with a recap of the
monetary policy decisions we have taken, or the reasons behind each of them, but will instead
concentrate on seven or so features which, to my mind, can be considered as the main issues when
reviewing our monetary policy experience.
Let me begin by making a few remarks on our focus on price stability. This focus is enshrined in the
Treaty on European Union and is our mandate. It is so with very good reason. Long gone are the days
when monetary policy was thought to face a long-term trade-off between inflation and economic
growth. It is now globally acknowledged that maintaining a low and stable rate of inflation is the best
contribution that monetary policy can make to economic welfare.
The ECB has pursued its mandate of maintaining price stability with vigour and determination. The
public has understood this. Inflation expectations, as measured by survey data or by financial market
indicators, have always remained consistent with our definition of price stability. This is all the more
remarkable as the ECB had no track record at the beginning while it was faced with the euro area
economy being hit by repeated upward price shocks. As a result of all these shocks, HICP inflation
has been above - and sometimes significantly above - 2% for quite some time. But inflation always
bounced back following these shocks and today the outlook for price stability is once again favourable.
A second related point I would like to mention is the medium-term orientation of our policy. As a
central bank, we only affect prices with long lags and we cannot steer trends in prices with high
precision. Our focus on the medium term helps to avoid overly ambitious attempts to fine-tune inflation
developments. You might ask what "medium term" means exactly. It is certainly not a fixed time
horizon, as some have argued. Experience in recent years has taught us that flexibility in this respect
is very important. From this point of view, the ECB's monetary policy strategy is different from pure
forms of inflation targeting.
This leads me to my third issue, which is that one cannot simply rely on a single inflation forecast to
conduct monetary policy successfully. Experience suggests that it can be very misleading to
summarise the assessment of medium-term inflationary pressures in one single figure, even when a
measure of statistical error is attached to it. Unfortunately, monetary policy is not so simple and the
repeated significant forecast errors by all major institutions over the last few years provide evidence of
this. Indeed, I agree with Alan Greenspan who once said that central bankers should be less reluctant
to admit that they sometimes do not know.
Instead of relying on a single forecast, our monetary policy strategy emphasises this fundamental
uncertainty. Our strategy builds on several forecasts and indicators and includes a cross-check of the
information from the economic analysis, which is relevant from the short to medium-term perspective
for inflation, with that from the monetary analysis, which is important for the medium to long-term
outlook.
In this respect, the fourth point that I would like to discuss today is that over the last few years we have
seen that monetary analysis is not only an important, but also a complex business. I have no doubt
that inflation is a monetary phenomenon over the long term and that we are right in attributing a
prominent role to monitoring monetary developments in our monetary policy strategy.
A fifth point I would like to make is that it was difficult to gauge the effects of global
interdependencies when we began to conduct the single monetary policy. What we have learnt, in
particular, is that global linkages go well beyond the international trade channel, which was
traditionally considered to be the main, if not the only channel through which economic shocks were
transmitted. Moreover, more shocks - such as those associated with the introduction of new
technologies and those of a political nature - have increasingly become global in nature.
Related to this - and this is my sixth point - we have learnt that sharp asset price fluctuations may
be very important for shaping economic trends. In recent years we have witnessed extraordinary
developments in capital markets. Initially, exceptional optimism about potential output growth and talks
of a "new economy" drove stock prices to sky-high levels.
The "new economy" euphoria was sowing the seeds of less positive developments even before it
actually burst. It seems to have been accompanied by a rising short-termism of corporate managers,
which in turn was accompanied by corporate malpractice and also pushed firms to over-invest,
especially in the IT and telecommunications sector. The subsequent large fall in equity prices and the
revelation of corporate malpractice had a series of negative consequences, including an increase in
leverage ratios of non-financial corporations, a decline in the value of collateral, increases in risk
premia, and certain firms experiencing difficulties in obtaining external finance. All of this may still be
part of the reason for the weak consumption and investment activity, and thus the slow pace of
economic growth in the euro area that we are now observing.
To cut a long story short: monetary policy obviously has to take into account the public and financial
market sentiment in assessing the risks to price stability over the medium term. Central banks must
monitor financial market developments very closely in order to figure out what the consequences are
for the outlook for price stability over the medium term, but they must not target asset prices.
Finally, and this is my last point on monetary policy, I would like to stress that effective
communication is an all-important requirement for successful monetary policy. However, as we have
learnt over the last five years, it is no easy business. I am sure you will appreciate that communication
is particularly difficult in the context of the euro area, with so many different traditions and languages.
Over time, we have seen a significant improvement in public understanding of our communication of
our monetary policy strategy and our monetary policy decisions. Evidence of this is that our monetary
policy decisions have been very predictable, as reflected in money market indicators, which I rate as a
highly positive development. Indeed, we want to be, and we have to be, well understood in order to be
effective in our policy. And, as you were able to see from our recent clarification of the ECB's strategy,
we continue to strive for even more effective communication.
The future of the ECB
Let me now turn to the Convention on the Future of Europe and the future institutional status of the
ECB. Celebrating the fifth anniversary is, of course, a good opportunity for us to look ahead. Where
will the ECB be in five years time? What kind of challenges will it face? What kind of environment will it
be confronted with?
Today we are very much aware that the constitutional construction of the European Union is in a
process of evolution. The Convention has more or less wrapped up its deliberations and its President,
Valéry Giscard d'Estaing, will present the draft of a new "Treaty establishing the Constitution" to the
leaders of the Member States in a few days time.
As the central bank of the European Union, the ECB has followed the work of the Convention with
great interest over the past one and a half years. The ECB welcomes all efforts to further the
construction of a united Europe. A European Union with effective, functioning and transparent
structures and processes, capable of meeting the expectations of its citizens, and equipped to assume
international responsibility commensurate with its size and importance, would complement and further
bolster the success of Economic and Monetary Union (EMU). Throughout the five years of its
existence, the ECB has stated that a strong euro is good for a strong Europe. I would now like to add
that a strong Europe is good for a strong euro.
If the European Union is re-writing its rulebook by giving itself a Constitution, does this mean profound
changes to the provisions relating to the ECB and to monetary union in general? Throughout the
process of drafting the Constitution, the ECB has consistently advocated that the economic
constitution of the EU - the basic set of rules and provisions for EMU as laid down in the Maastricht
Treaty - is sound both in terms of the objectives set and the allocation of responsibilities between
different actors and levels of government. The Convention appears to have followed a similar
reasoning, as it appears that the future Constitution will take over the provisions relating to EMU in an
essentially unchanged form. The single monetary policy is, by its very nature, indivisible and is thus
centralised; hence it remains an exclusive competence of the Union. The task of conducting monetary
policy, as well as all other central banking tasks, has been assigned to an independent central bank
with a clear primary objective of maintaining price stability. In addition to the ECB, the ESCB is also
mentioned in the first part of the Constitution, thus acknowledging the federal nature of the monetary
authority of the European Union and its sui generis character. Finally, the more specific provisions
concerning monetary policy in the current Treaty as well as the Statute of the ECB and the ESCB will
remain unchanged and form part of the constitutional texts of the Union.
By contrast, budgetary and other economic policies will remain under national competence in the
future Constitution, in recognition of the fact that the vast majority of "public goods", such as defence,
for which revenues are raised and subsequently dispensed, are still provided at the national level.
That said, the draft Constitution also prescribes a close co-ordination of economic policies within the
Union. I very much welcome the fact that the fundamental features of the current set-up of EMU have
been preserved. After all, the stability of the institutional architecture is a crucial element of the
credibility of the single monetary policy and the public's confidence in our currency.
Concluding remarks
Clearly it is now up to the governments of the Member States to move forward in the forthcoming
Intergovernmental Conference and give the final form to the text prepared by the Convention. If I, as a
central banker, am allowed to present my assessment, I would argue that the Convention has done a
very good job of incorporating the substance of the EMU chapter into the new Constitution, while also
introducing clarifications, additions and updates in the current texts where necessary and appropriate.
What I do miss is that the Convention has not taken over our suggestion to incorporate somewhere in
the text the notion of Eurosystem, which stands for the core concept of our central banking system,
i.e. the ECB and the national central banks of the member states that have adopted the euro. The
Eurosystem is not mentioned in the Treaty as it stands, nor in the draft-Constitution. Conclusion: we
still have some work to do....!!!
Thank you for your attention.