Asociación de Mercados Financieros Annual Financial Convention
Madrid, 21 November 2016
François Villeroy de Galhau, Governor of the Banque de France
Europe facing a new political economy
Mr. President, Ladies and Gentlemen,
Thank you for your invitation. I am grateful for the opportunity to speak
here in Madrid today with my friend Governor L. Linde, in the midst of the
Spanish financial community, and in a country which has demonstrated its
active commitment to the European project since it joined the European Union
thirty years ago. We have come a long way in Europe and our common history
and past success will help us look ahead in these challenging times. The
Brexit referendum in June and Mr. Trump's
victory two weeks ago have indeed
come as shocks for Europe: both have increased uncertainty and are raising
questions about the European identity. How should we, as Europeans, react?
Not by less Europe: this would clearly be a mistake if we want to collectively
master our own destiny in this new world. But by a better Europe, a more
focused and efficient one. In concrete terms, we need to adapt in two ways:
-
first, by building actively on our economic and social assets among them our
single currency and monetary policy; second, by coming together around a few
- including tackling the current "investment crunch".
new select priorities
**
I. First, Europe's assets in the new "political economy".
Let me start with a brief remark about terminology. For a long time,
"political economy"
economic thinkers used the term to refer to the discipline
that we now call "economics". Adam Smith, David Ricardo or Léon Walras, to
name but a few, were some of its exponents. Despite its 400 year-old history,
the term "political economy" had in the last decades gradually lost its
importance as a comprehensive way of understanding economic issues. And
yet it could now be returning to the forefront, given the strong interactions
between politics and economics. At the international level, we cannot yet
predict what Mr. Trump's presidency will really be like, but we can expect a
deep political shift, with consequences for American economic policies.
Besides, the electoral cycle will continue in Europe, starting with the Italian
referendum in December. To state the obvious, the first certainty is that we are
facing a lot of uncertainty. How will Europe overcome this? I sincerely hope not
by "waiting and seeing", but rather by sticking to and building further on
its
three shared economic and social assets: its single currency, its single
We must actively build on them, and
market, and its unique social model.
not lazily rest on our laurels: pride should not be confused with complacency.
First, with the we share a solid currency which is recognised
euro,
worldwide. The vast majority of euro area citizens are attached to it (68%
according to the latest Eurobarometeri). Moreover, in a world of uncertainty,
European monetary policy is a yardstick of stability. Within the ECB Governing
Council, around Mario Draghi, we take very seriously the task entrusted to us
by the European Treaties of maintaining price stability, meaning medium-term
inflation of close to but below 2%. Our monetary policy has safeguarded the
euro area against the threat of deflation in recent times, and is achieving
tangible progress towards our inflation target: inflation rose to 0.5% in October
and should exceed 1% in early 2017. It is supporting demand while narrowing
the output gap, which has been reduced from -2.4% in 2014 to -1.0% in 2016
according to European Commission estimatesii. The Eurosystem has already
provided ample liquidity to the European economy: our holdings under the
expanded asset purchase programme amounted to nearly EUR 1,400 bn in
October 2016.
We can take stock of this progress, while remaining alert to the latest
financial developments and their mixed economic effects: the rise in the equity
market but also in the long term interest rates; the appreciation of the dollar
but quasi-stability of the global euro exchange rate; and the increase in
inflation expectations. We should be both confident in our progress, and
vigilant with respect to our environment. Until March, we will go on
implementing exactly what we said we would: our clear success today in
purchasing a volume of EUR 80 bn of assets per month, including corporate
bonds, is the best guarantee of our credibility tomorrow. I am fully confident
that in our next monetary meetings, in the coming months, we will decide, in a
pragmatic approach, about the best evolution after March of all our available
tools: QE, TLTRO and forward guidance on interest rates. And we have many
options open regarding the size and length of instruments like our APP,
excluding either a sudden stop of its contribution to our accommodative policy
in March, or the continuation of the same contribution forever.
Second, we in Europe share a large It is a tremendous
single market.
asset which belongs to us all, the 27. It is no coincidence that access to the
single market lies at the heart of the Brexit debate. We cannot prejudge the
outcome of the future negotiations, but we can be sure of one consistency
principle: access to the single market must continue to go hand-in-hand with
strict acceptance of all its rules. There can be no cherry-picking or free-riding.
And we must obviously preserve the single European trade policy, if we want
to exist in the trade negotiations to come worldwide.
Third, we share a common social model (slide 2) which combines high
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standards of public service and relatively low levels of inequality much lower
than in American society. And this has been achieved in a market economy. At
a time when globalisation may leave many behind in advanced economies,
-
when the debate about inequalities is coming back to the forefront and these
are real challenges behind the populist wave -, now is not the moment to give
up on our social model. But this ambition must be clear-sighted: in some
countries like France and Italy, the high cost of the model and its disappointing
performance in terms of growth and employment calls for an acceleration in
reforms in the right direction (slide 3). Several European countries, including
Germany and Spain, are showing the way forward: they have succeeded in
carrying out wide-reaching reforms that are compatible with our shared social
model. Progress has been made in all four key areas: Enterprise,
Employment, Education and Expenditure reduction. And these reforms are
delivering results today: in recent years, GDP and employment have grown
much faster in the "reforming" countries, than in France or Italy for instance.
II. Beyond our existing assets, we in Europe must put our joint energies
into mastering our common destiny.
Europe needs all Member States to play their part in the common effort. It
needs France, as well as Spain and its constant European commitment. For
this to be a success, projects for strengthening Europe have to be carefully
selected and prioritized; and we must not only talk about them, we must give
the practical means to achieve concrete results. In a nutshell: "few,
ourselves
well, till the end", or in Spanish if I may, There are
"poco, bién, hasta el final".
of course non-economic areas: to name a few, defence and border protection;
-
climate change; or youth education and training an Erasmus Pro programme
should be a priority for the unskilled and unemployed youth, which is our
common tragedy in France, Spain and Italy. But in the economic field, much
monetary
remains to be done as well. Although we have succeeded with
-
union, we must make progress towards economic union so that monetary
policy does not remain the only game in town.
1. The first economic priority is to address the root causes of Europe's
continuing subdued growth; and a major one is what I call the
"investment crunch".
(Slide 4) Many, following Ben Bernanke's speech of March 2005, have
rightly talked about the "global saving glut" that was putting pressure on the
world's economies. At present, saving remains high, due to the combination of
emerging market economies' surplus and advanced countries' aging
populations. However, (slide 5) what has dramatically changed since the 2007-
08 crisis is investment, which has dropped sharply as a share of GDP in
advanced economies. In the euro area, the total investment to GDP ratio has
dropped by around 3 points since the 2007 peak and has only slightly
recovered since. The gap between savings and investment is therefore huge:
the current account surplus reached EUR 350 billion on a yearly basis in
"investment crunch" -
August 2016, which is more than 3% of GDP. This
rather than the "saving glut" -
is holding back our growth.
It is true that part of the decline in total investment since the crisis has
come from a drop in real estate investment: it was booming before the crisis,
especially in countries experiencing real estate bubbles such as Spain. But
-
what matters the most for our long term growth is and
business investment
more precisely "productive investment" (slide 6): this includes investment in
research and development and industrial machinery, as opposed to
investment in construction which in itself does not spur innovation. One issue
for concern is that the productive investment rate has long remained below its
pre-crisis level in the euro area. What is more, it has been weaker in France
and Spain than in the euro area as a whole, although it has been recovering in
recent years especially in Spain. These developments have translated into a
striking change in businesses' behaviour (slide 7): since
mid-2009, euro area
non-financial corporations have turned from net borrowers into net lenders,
thereby fuelling the euro area current account surplus.
2. To address the "investment crunch", we need a comprehensive
therapy, both economic and financial.
On the economic side, business investment depends indeed on two levers
(slide 8). The first one is expected demand. Banque de France researchiii
based on a panel of 22 advanced economies shows that over the 1996-2014
period it has been the main determinant of the slowdown in business
investment (negative contribution of 80%). The second lever is confidence or,
in other words, the level of uncertainty (17%). Concretely, rules have to
become simpler and more stable for entrepreneurs. In France and Spain, we
in the latest World Bank 'Doing Business'
are still far from the best performers
ranking: we came in 29th and 32nd respectivelyiv.
But alongside the economic levers, play a role too (slide
financial levers
9). As Europe's economy is close to the "technological frontier", businesses
need to innovate more. As such, they need to be able to take more risks,
which means more equity financing, rather than debt financing. But Europe is
lagging behind: equity capital amounts to only 52% of GDP in the euro area,
compared with 121% in the United States. In addition, (slide 10) the cost of
-
equity (CoE) has remained astonishingly high on both sides of the Atlantic
more than 9% for large listed companies in the euro area according to Banque
-
de France calculations despite the sharp fall in interest rates over the last
two decades. This means that the risk premia have increased. The high CoE
could prompt companies to give priority to dividends and share buybacks over
-
investment we have seen this situation occurring in the United-States.
So, in practice, what is the way forward? Obviously, as I argued earlier, we
need economic and social reforms at the national level. But a large part of the
solution lies at the European level as well: (slide 11) as of today, Europe
"Financing and Investment Union"
needs what I call a (FIU) to steer
abundant savings into productive investment. The FIU would merge together
the initiatives already in place, which do not deliver sufficient results: the
Capital Markets Union of course, but also the Juncker Plan and the Banking
Union. We need to put the pieces of the puzzle together in order to magnify
their impact through synergies. There are two objectives: increased
diversification of firms' financing -
with more equity financing, and higher
resilience of the euro area thanks to private risk-sharing across domestic
borders.
3. Beyond the "Financing and Investment Union", which is the first step,
I believe that Europe should move forward on two further concrete steps.
The second step, after the FIU, is a collective economic strategy for the
euro area. Growth and employment will be stronger in Europe if we combine
more reforms where they are needed, such as in France and Italy, and more
fiscal support in those countries with room for manoeuvre, such as Germany.
In practice, for such a collective economic strategy to exist, the euro area
needs to overcome the current sense of distrust. So it needs an institution that
fosters confidence: it could consist of a euro area "Finance Minister". He would
be responsible for defining the collective strategy with the Eurogroup, and for
ensuring it was implemented in each country. He would also be tasked with
managing a reinforced ESM (European Stability Mechanism). In terms of
timing, this second step can only reasonably come after the elections
scheduled for next year in some euro area countries, as it requires modifying
the European Treaties.
The third step, in the longer term, would be to complete the Economic and
Monetary Union with a European fiscal capacity. This involves gaining more
"transfer union".
trust from Member States, to avoid it being seen as a one-way
A genuine euro budget would be a stabilisation tool and could include, for
example, a European-wide unemployment insurance scheme. It could also be
used to finance certain "European public goods" such as digital technology,
the energy transition or the integration of refugees. And in the long term, it
could directly issue common debt and even raise taxes.
**
Let me sum up. To withstand the current global headwinds, we in Europe
must safeguard our three common economic and social assets. And we
cannot just wait for better conditions: as a central banker, I have given you my
views on the path we can take in the economic area. It is now time for
Europeans to embark on some decisive actions to be able to look to the future
with confidence. As put by José Ortega y Gasset, the famous Madrid-born
philosopher: "Life is a series of collisions with the future; it is not the sum of
but what we yearn to be". Thank you for your attention.
what we have been,
i
European Commission, Standard Eurobarometer 85, July 2016.
ii
European Commission, European economic forecast, Autumn 2016.
iii
Matthieu Bussière, Laurent Ferrara and Juliana Milovich, 'Explaining the recent slump in investment: the role
of expected demand and uncertainty', Banque de France WP No. 571, September 2015.
iv
World Bank, Doing business 2017 report.