François Villeroy de Galhau: Euro area monetary policy and
businesses
Speech by Mr François Villeroy de Galhau, Governor of the Bank of France, at the Vereinigung
der Bayerischen Wirtschaft, Munich, 26 January 2017.
* * *
I am very pleased to be here with you and wish to thank you for inviting me. It is the second time
in recent months that I have had the pleasure of visiting Bavaria. In September, here in Munich, I
had the great honour of receiving the Montgelas prize, presented by Minister Erwin Huber, in
remembrance of one of your great statesmen. If I may add a personal note, I am here as a
committed European and a friend of Germany. I am French but my roots are in Saarland where
my family has lived since the end of the 18th century and where its porcelain manufacturing
company Villeroy & Boch forms part of the German "Mittelstand". I feel close to your country and
admire its success, particularly that of its business enterprises. Bavaria illustrates this success.
It is currently one of Europe's major economic centres. I will also have the pleasure later of
meeting Dr Theo Waigel, who, alongside other German political leaders, has played such a key
role in the construction of our solid common currency, the euro.
Our growth forecasts for the euro area are for growth of 1.7% in 2017, the same as in 2016. This
confirms the economic recovery, which is good news, but the situation is not yet satisfactory.
The euro area as a whole must aim for stronger and more lasting growth. Monetary policy
naturally plays a vital role: it ensures the price stability required for growth; this is my first point.
However, on its own, it can never be enough. To accelerate growth, the other economic policy
levers must be brought into play; I shall come back to this later. Lastly, I will share some thoughts
on the new international environment that heightens the urgency of taking action in Europe.
**
1. Our monetary policy is an asset for the euro area.
I am perfectly aware that the ECB's monetary policy is the subject of lively debate in
Germany. I would first like to explain the reasons for this policy and what the situation is today.
a) Why have we been pursuing this monetary policy? Our European Central Bank, it should
be remembered, was constructed on solid foundations shaped according to the model of the
Bundesbank and its successes. And I sincerely believe that our present monetary policy is very
much in accordance with the German values that I fully share: independence, respect of the
Treaties, price stability and a long-term approach. Contrary to what some critics suggest, our
monetary policy is not some sort of Latin fantasy. It is decided collectively by the Council of
Governors and we take the mission entrusted to us - ensuring price stability - very seriously.
This means ensuring that inflation is neither too high nor too low. Overly high inflation would have
disastrous consequences for the economy - as German history shows. Excessively low inflation
would have exposed us to deflation, a mortal danger as we know from the 1930s. In practice,
price stability was defined by the Council of Governors as from 2003 as an inflation rate of close
to, but below, 2% over the medium-term. This definition has not changed and is now widely
shared by all the central banks in developed countries, including the United States and the United
Kingdom. Up to recent years, the stability of prices in the euro area was remarkable. However,
as from 2013, inflation dropped to well below the 2% mark. Our mandate required us to respond
so as to bring inflation back to healthier levels for our economies.
b) Inflation is gradually recovering in the euro area, as we had
What is the situation today?
announced: we have gone from a fall of 0.2% in April 2016 to a rise of 1.1% in last December.
This is partly due to the rebound in energy prices but is also the result of our monetary policy: it
has enabled us to ward off the risk of deflation which was still a threat in 2015. Now in contrast,
some seem to fear a resurgence of inflation; this is very exaggerated. We have not yet reached
our 2% target and "core" inflation - excluding energy and food - is of only 0.9%. The other
question mark concerns the differences between countries, with inflation of 1.7% in Germany.
However, following a temporary peak in the first quarter, German inflation is expected to remain
under 2% on average throughout 2017. Moreover the inflation differences between countries are
consistent with their different national economic situations: growth and employment are also
stronger in Germany; and these differences could even contribute, via their impact on relative
wages, to correcting the imbalances, hence achieving greater convergence within the euro area.
I can naturally grasp the concern of German savers in the face of low interest rates. It is not our
aim to keep interest rates low for too long: low interest rates are not a goal in themselves; they
are merely the necessary condition today for gradually returning towards our inflation target, and
ensuring lastingly higher interest rates in the future, as Mario Draghi himself has put it. This
movement has already started for long-term interest rates, with the 10-year Bund gaining nearly
60 basis points since the end of September. In December, in view of the progress achieved, we
decided to reduce the volume of our monthly asset purchases from 80 to 60 billion euro. I also
repeat that although I am convinced that negative interest rates have their use, they have clear
limitations. But, although QE will obviously not last forever, we clearly did not discuss tapering or
any exit strategy. Our monetary policy decisions have indeed given predictability for the whole
year to come, and we will during this period look through transient inflation changes to focus on
the medium term inflation outlook for the euro area as a whole. Lastly, interest rates do not
depend on monetary policy alone, they also stem from economic growth. It is therefore in the
savers' interest that growth should be more vigorous in Europe.
Yet, as my colleague, Jens Weidmann, said last spring, "people are not just savers"
[ " Menschen sind nicht nur Sparer"]. In Germany and in Bavaria, businesses, employees,
consumers and home buyers benefit from the ECB's low interest rates. Our measures create
particularly favourable financing conditions for businesses and households. Lending has grown
significantly: in Germany, lending to businesses had grown by 3.5% year on year in the 12
months to November 2016. Moreover, borrowing costs less as bank interest rates have fallen
steadily. As has been confirmed by several studies, monetary policy has also boosted GDP
growth - for more than 1.5 percentage points from 2015 to 2018. The definitive stability of
exchange rates within the euro area and the more favourable effective rate observed outside the
euro area are clear advantages for German and Bavarian exporters, from Airbus to Dräxlmaier or
BrauKon. The economic studies all agree: the benefits linked to the euro have been good for all
the member countries but it is the German economy that has benefited most from belonging to
the euro area. And regardless of the debate surrounding our monetary policy, it is in Germany
that support for the euro is strongest, and still growing: 81% at the end of 2016. Support is also
strong on average in the euro area (70%) and in my own country (68%). However, we are all
agreed that monetary policy alone is not enough to ensure stronger growth.
2. To achieve stronger growth, our countries must reform and Europe must rapidly bring
two supplementary levers into action.
The first growth lever for the euro area is
more reform in our countries and a better
collective economic strategy. Growth and employment would be stronger in Europe with more
structural reforms where they are a priority, such as in France, and more public investment for
instance and fiscal support in those countries with room for manoeuvre, such as Germany.
Regarding reform, like you, I would like France to accelerate; I say it frequently in my country.
These reforms are compatible with the European social model that we share; many successes
in Europe have demonstrated this. But you must not consider your French neighbour to be
"unreformable". France has not been immobile over the past few years. Pensions have been
reformed. Reforms such as the CICE tax credit, the Responsibility Pact and the so-called "El
Khomri" labour law have substantially reduced the burden for businesses. France has met its
deficit reduction targets for the past two years. This fiscal credibility must continue to improve in
2017. All this is not enough, but you should not doubt France too much, even in this election year.
The soundness of our political institutions and majority system represent lasting advantages.
From its significantly more positive economic situation, Germany should also continue with
reform: demographic change is likely to result in a decline in the working population - and the
present inflow of refugees will not change this to any significant extent. This means that growth
will slow in the long term. However, it is obviously not for me to advise measures for your
country. At European level, our competitiveness will depend in particular on creating a large
digital single market.
I know that when the French speak of coordination in Europe, Germans sometimes suspect it to
be a new trick to avoid reform. We must break out of this dead-end: we need both national
reforms and European coordination. As Helmut Schmidt repeated frequently, we must build
economic union as well as monetary union. But this does not in my view mean a "Union of
Transfers", which Germany quite legitimately refuses.
The second growth lever: create in parallel what I call a "Financing and Investment
(FIU). Why? Because numerous businesses in Europe wish to invest and innovate but
Union"
are unable to find appropriate financing. Still, the funds are by no means lacking: the euro area
has a savings surplus of 350 billion euro, i.e. more than 3% of GDP. The FIU would facilitate the
mobilisation of these abundant savings towards investment. To achieve this, we must develop
synergies between the existing initiatives: Capital Markets Union, the Juncker Plan and Banking
Union. But we must also go still further, with two clear goals. Firstly, diversification of financing to
meet businesses' needs. Equity financing, rather than debt financing, is better adapted to risk
taking and therefore to innovation. But Europe currently lags very far behind in this area: equity
financing of businesses is less than half that in the United States (67% of GDP in the euro area
compared with 125% in the United States). Secondly: increased resilience of the euro area
thanks to integrated capital markets. As Jens Weidmann and I wrote last year, this manner of
sharing private risks is the best way to counter asymmetric shocks within a monetary union. In
the United States for example, private equity is capable of absorbing around 40% of an economic
shock specific to a State.
3. The new international environment makes action more urgent.
Some of those around us seem to no longer believe in the benefits of the European Union. The
new US president has stated this very clearly, and the British chose to leave the union. These
changes bring us face to face with our responsibilities: we can no longer afford to wait and see.
But how should we respond? Not by less Europe. That would be a mistake if we wish to have
collective control over our destiny in this new world. We should respond with a "better"
Europe, less distracted by details, more focused on its priorities and more efficient. There is no
point in just talking about it, we must take the necessary measures to achieve concrete results.
There are, of course, non economic areas such as defence, border security, climate change and
youth education and training, to mention just a few. But in economic matters, there is also a lot
that remains to be done. We in Europe have three major assets: our single currency, our single
market and our common European social model. I wish to stress the extent to which this "soziale
Marktwirtschaft" is a response to the questions raised in the Anglo-Saxon world. Germany, like
many other European countries, proves that economic success can go hand in hand with social
welfare and less inequality. Now is not the moment to haul down the European flag: it is time to
build on our assets more actively, including by achieving a better economic union, which I spoke
of earlier.
I wish to add a few words about Brexit. It is not something we wanted and it is obviously bad
news, first and foremost for the United Kingdom and its economy. I note that the victory of Brexit
has brought the official growth forecast for Britain down to below that of the euro area, at only
1.4% in 2017. Our priority is to manage the consequences as smoothly as possible and reduce
uncertainty as much as we can. The British prime minister's speech last week provided some
clarifications but it is essential to bear one clear principle in mind: the single market is not
divisible; access to the single market is inseparable from respecting its rules. This makes a
simple free trade agreement such as that proposed by Theresa May very difficult and there can
be no cherry picking with regard to Europe. The German Chancellor has quite rightly stressed
that it is essential for all 27 Member States to be united on this matter.
**
I will conclude by sharing my conviction with you. In the face of US and global uncertainties, I
want the euro area to be an area of relative stability and growth. But now more than ever, France
and Germany must act together. As a central banker, our duty is to implement the best possible
monetary policy for the euro area, in keeping with our mandate. But this monetary policy neither
can, nor should, do everything. It is also my responsibility to make proposals for more effective
economic policies. I have outlined some ideas to you with my conviction as a European and I am
now happy to answer your questions.