Christine Lagarde: IMFC Statement
Speech by Ms Christine Lagarde, President of the European Central Bank, at the
fortysixth meeting of the International Monetary and Financial Committee (IMFC), IMF
Annual Meetings, Washington DC, 14 October 2022.
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Global growth momentum has slowed since our previous meeting in April, as high
energy prices and geopolitical uncertainty take their toll on economic activity. The
remaining supply-related headwinds are also acting as a drag on growth, although
these are gradually easing. Russia's war against Ukraine has pushed energy prices
higher and disrupted global food supply chains, fuelling inflationary pressures worldwide
and raising concerns about global food security. Pandemic-related restrictions are less
widespread than before but may continue to hamper global economic activity via
renewed supply-side disruptions. And the exceptionally strong inflationary pressures
are weighing on people's disposable income and the savings they built up during the
pandemic.
Overall, the global inflation outlook and the global economic outlook are both fraught
with uncertainty. Monetary policy needs to ensure that inflation does not become
entrenched and that it returns to target in the medium term. And fiscal policy needs to
be carefully calibrated to country-specific circumstances to protect the most vulnerable
groups from the cost-of-living crisis while preserving debt sustainability and without
adding to inflationary pressures.
Inflation in the euro area is far too high, and it is likely to stay above the ECB's target for
an extended period of time. We will therefore continue along our monetary policy
normalisation path. Key ECB interest rates were raised by 50 basis points in July and
75 basis points in September. This has frontloaded the transition from the prevailing
highly accommodative policy rates towards levels that will ensure the timely return of
inflation to our 2% medium-term target. The ECB's Governing Council expects to raise
interest rates further over the next several meetings, based on a data-dependent and
meeting-by-meeting approach.
Furthermore, our new Transmission Protection Instrument is available to counter
unwarranted, disorderly market dynamics that pose a serious threat to the effective
transmission of our monetary policy stance across all euro area countries. Finally, we
are countering pandemic-related risks to the transmission mechanism by applying
flexibility when reinvesting redemptions coming due in the pandemic emergency
purchase programme portfolio.
Economic activity
Euro area real GDP growth was robust in the first half of 2022, supported by the
reopening of economies in the second quarter as pandemic-related restrictions were
lifted. However, the outlook has since darkened due to high inflation, waning reopening
effects, weakening global demand and falling confidence. These factors are likely to
cause a significant slowdown in euro area GDP growth in the second half of the year
and early 2023. But there are also factors supporting GDP growth, such as the level of
accumulated household savings, a robust labour market and fiscal support, including
the ongoing deployment of EU Recovery and Resilience Facility funds. Overall,
however, risks to growth are primarily on the downside, particularly because of the
economic consequences of the war in Ukraine.
Fiscal policy remains key to buffering the shock from the war and should continue to
provide a lifeline to households and firms facing a steep rise in energy bills. At the same
time, fiscal support measures should be temporary and targeted at the most vulnerable
households and firms - those who are bearing the brunt of higher energy prices - to
limit the risk of fuelling inflationary pressures and to make public spending more
efficient. And these measures need to be supported by an accelerated clean energy
transition, including through additional public investment. With monetary policy
normalising, the focus of fiscal policy will need to shift progressively towards measures
that preserve debt sustainability without endangering the recovery in the medium term.
Inflation
Inflation has continued to rise and reached 10% in September. The increase was larger
than expected, mainly due to energy and food price inflation. Energy price inflation
remains extremely high and is the dominant component of overall inflation. Food prices
have also increased further, reflecting higher energy input costs, disruptions to trade in
food commodities and adverse weather conditions. Price pressures are spreading
across more and more sectors, partly owing to the impact of high energy costs and
supply bottlenecks, but also because of recovering demand in the services sector. As
the current sources of inflation fade over time and we continue along the path of
monetary policy normalisation, we expect inflation to decline in the coming years, but to
remain above target in 2023 and 2024. The risks to the inflation outlook are primarily on
the upside, mainly reflecting the possibility of further major disruptions to energy
supplies. Sustained periods of high inflation - especially when combined with labour
shortages - may increase the risk of excessive second-round effects, which may in turn
lead to inflation remaining high for a prolonged period of time. The ECB closely
monitors wage dynamics and long-term inflation expectations to assess such risks.
Currently, wage growth remains contained, although it has increased somewhat.
Longterm inflation expectations also remain anchored, but initial signs of above-target
revisions in some indicators warrant close monitoring.
Euro area banking sector and financial stability
The financial stability outlook has deteriorated as weaker economic growth, higher
inflation and tighter financing conditions put pressure on the debt servicing capacity of
companies and households. Despite recent adjustments, financial markets still appear
to be pricing in outcomes that could turn out to be too optimistic. This makes valuations
vulnerable to a range of possible negative surprises, whether from growth, inflation,
monetary policy or corporate profitability. And although open-ended investment funds
have slightly reduced their credit risk exposures, their low liquidity buffers imply that
there is still a significant risk of these funds amplifying a market correction via forced
selling. Vulnerabilities also remain elevated in property markets, where the potential for
a price correction has increased.
The euro area banking sector has sound capital levels and continues to benefit from the
falling levels of non-performing loans we have been seeing since 2014. However, while
bank profitability has so far been supported by higher interest margins and low
impairments, the economic outlook makes future profitability very uncertain. We are
seeing early signs of an increase in credit risk, which warrants careful monitoring.
Russia's invasion of Ukraine has compounded the existing macro-financial
vulnerabilities and increased the likelihood of risks materialising in the near term. In this
challenging environment, macroprudential authorities in some countries could still
increase capital buffers, provided that procyclical effects are avoided. This would
preserve the banking sector's resilience and increase authorities' room for manoeuvre
in the event of adverse developments. At the same time, authorities should take the
current headwinds to economic growth into account and avoid an excessive tightening
of credit conditions.
It is also important to make further progress with global financial reforms. In particular,
the resilience of the non-bank financial sector could be improved by enhancing the
availability and use of liquidity management tools for open-ended investment funds and
by better aligning redemption terms with asset liquidity via more structural liquidity tools.
Further policy work on margining practices and non-bank leverage would also be
important.
International support for Ukraine and vulnerable countries
Given the urgency of the current food crisis, we welcome the rapid approval of the new
"food shock window" so resources can be provided to the affected countries as soon as
possible. We also welcome the swift approval of the emergency financing for Ukraine
under this new window.
Furthermore, very good progress has been made as regards the IMF's new Resilience
and Sustainability Trust (RST), which has now become operational. For contributions by
EU national central banks, it is essential that claims on the RST maintain reserve asset
quality. In our assessment, the modalities of the loan and deposit accounts of the RST,
as well as the deposit and investment account of the Poverty Reduction and Growth
Trust, are acceptable in that regard. However, we note that the channelling of special
drawing rights by EU national central banks to multilateral development banks or
individual countries would not be compatible with the EU's legal framework.
Supporting the transformation of the global economy
The IMF's work on climate change is a positive step. Decarbonisation policies are
expected to have manageable macroeconomic implications in the near term, if
implemented gradually but without delay. However, further delays would worsen the
trade-off between addressing inflation and safeguarding economic output, potentially
also posing challenges for monetary policy. In the current environment of high energy
prices and inflationary pressure, we should take advantage of the fact that the paths to
achieving both energy security and climate security are pointing firmly in the same
direction.
The ECB will adjust the corporate bond holdings in the Eurosystem's monetary policy
portfolios and collateral framework, introduce climate-related disclosure requirements
and enhance risk management practices. This is all part of our action plan to
incorporate climate change considerations into our monetary policy framework. Just this
month, the Eurosystem started taking each issuer's climate score into account for all
purchases of corporate bonds in the context of the ongoing reinvestment purchases.
Tackling climate-related and environmental risks is also one of the ECB's key
supervisory priorities for 2022-24. We have set a strategic objective for banks to
proactively incorporate climate-related and environmental risks into their business
strategies and their governance and risk management frameworks.
As regards the digital economy, the ECB will continue to support and contribute to the
G20 initiative to make international payments faster, cheaper, safer and more inclusive.
This requires improvements in various areas, including the interoperability of payment
systems and exchanging data across borders. And several legal issues need to be
resolved, such as aligning cross-border regulatory, supervisory and oversight
frameworks.
We have also just entered the second year of the investigation phase of our digital euro
project. We are examining key questions about the potential design and distribution of a
digital euro, which would be a complement to cash, not a replacement for it. For the
Eurosystem, the motivation behind the digital euro project is mainly domestic in nature.
However, we recognise the benefits of discussing various issues at the international
level, such as cross-currency payments made in retail central bank digital currency
(CBDC) and the potential effects of giving foreign users access to domestic retail CBDC
under specific conditions. In this regard, international cooperation on digital currencies
will remain essential.