Jean-Claude Trichet: Swiss monetary policy as viewed by the European Central
Bank
Speech by Mr Jean-Claude Trichet, President of the European Central Bank, on the occasion of the
100th anniversary of the Swiss National Bank, Zurich, 22 June 2007.
* * *
Madame la Présidente de la Confédération suisse,
Monsieur le Président du Gouvernement du Liechtenstein,
Ministers, Excellencies,
Dear President of the Bank Council of the Swiss National Bank,
Dear Jean-Pierre Roth, Dear Chairman of the Governing Board of the Swiss National Bank,
Dear fellow Governors,
Ladies and gentlemen,
It is an immense pleasure for me to be here today with such a distinguished audience to celebrate the
100th anniversary of the foundation of the Swiss National Bank (SNB). The SNB is to be especially
congratulated because, in spite of the turbulences which have characterised the period since 1907 -
two world wars, the Great Depression, and the Great Inflation - it has succeeded in delivering, on
average, a remarkably low inflation rate. I regard a historical and international perspective on Swiss
price stability as being especially appropriate.
A historical and international perspective: a low-inflation country
It has been noted that, notwithstanding the Great Inflation episode, and the temporary inflationary
outbursts corresponding to the two world wars, the United States should correctly be characterised,
when seen from a very long-run perspective, as a low-inflation country. This is a claim made, in
particular, by Bradford DeLong in his analysis of the US inflationary experience since the time of the
Civil War.1
Historical experience suggests that Switzerland deserves such a characterisation to a significantly
greater extent. First, since 1880 Swiss annual inflation has been, on average, just 2.2%, to be
compared to 2.6% in the US. Second, in an international comparison with 13 other OECD countries
since 1880, and excluding from the computation the years corresponding to the First and Second
World Wars and their immediate aftermath (in order to avoid a distortion of the results through the
extraordinary turbulence associated with the two world wars), Switzerland comes out on top once
again, with an annual average inflation rate of just 1.5%. Finally, focusing on the period following the
creation of the Swiss National Bank, and excluding, once again, the years of the two world wars and
their immediate aftermath, Switzerland, with an average annual inflation rate of 2.1% is, together with
Germany, again the best performer.
Switzerland's consistent "credible currency, low-inflation" strategy clearly emerged during the episode
which can reasonably be characterised as the Swiss National Bank's "finest hour": the Great Inflation
of the 1970s. As pointed out by Edward Nelson2,
"[i]n Switzerland, [...] while a debate on the nature of inflation did take place in the early 1970s, it was
resolved quite rapidly in favor of the monetary view, leading to an eschewing of non-monetary
approaches to inflation control".
In subscribing to the ultimately monetary nature of inflation, the Swiss National Bank was accepting
the lesson of Milton Friedman as remarkably exposed in the Monetary History of the United States3,
the single piece of research which - more than any other - contributed to changing policy making. And
indeed, as emphasised by Robert Lucas in the remarks he delivered at Otmar Issing's Festschrift one
year ago4,
"[t]he first central banks to deal effectively with the 1970s inflation were the Bundesbank and the Swiss
National Bank, and both did so in the mid-1970s by deliberate reductions in money growth rates. In
October 1979 the US Federal Reserve followed suit [...]."
Monetary policy and monetary aggregates
As stressed by Lucas, recalling the Swiss National Bank's - and the Bundesbank's, as well as a
number of European central banks', including Banque de France's -acceptance, back in the 1970s, of
the ultimately monetary nature of inflation, and their use of monetary means to bring it under control, is
especially important today, when the relevance of monetary analysis for monetary policy is sometimes
questioned. As Charles Goodhart sarcastically put it5
"[m]onetarism, in any of its guises, has become somewhat unfashionable; and the New Keynesian
three-equation synthesis [...] rides high. [...] Deviate from this, and you are not a member of the In
Crowd."
The reasons why the role of monetary aggregates in monetary policy analysis is today questioned are
well known. On the conceptual front, the ascendancy of Neo-Wicksellian theory6 which assigns to
monetary aggregates a purely residual role. At the practical level, the breakdown, in several countries,
of the empirical relationship between money growth and inflation, which led the former Governor of the
Bank of Canada, Gerald Bouey, to famously quip that " We didn't abandon monetary aggregates, they
abandoned us". I have three comments on this.
First, empirical evidence7 shows that - since the first half of the nineteenth century, and in a number
of countries - fluctuations in trend money growth have almost always led to fluctuations in trend
inflation, with upswings or downswings in trend money growth having been followed, a few years later,
by upswings or downswings in trend inflation. The crucial point to stress here is that the resilience of
the lead of trend money growth over trend inflation over time, and across radically different monetary
regimes, clearly suggests that such a lead is a structural feature of the economy - that is, embedded
in the structure of the system so as to be invariant to occasional changes in the monetary regimes.
This empirical finding represents a bedrock fact that any model - including those built on
NewKeynesian synthesis principles - has to confront and seek to reproduce. Since, over the last two
centuries, fluctuations in trend money growth have almost always been followed by fluctuations in
trend inflation in the same direction, an upswing in trend money growth points to the existence of
upward medium to long term risks to the inflation profile. In the light of the evidence coming from the
last two centuries of data, totally ignoring trend movements in money growth would therefore entail -
in my view - excessive and unreasonable risks. The practice of the SNB - and of the ECB - of closely
monitoring monetary trends in order to identify long-term risks to price stability is therefore validated by
the monetary history of the last 200 years.
Second, as recently stressed, in particular, by Philippe Hildebrand at a central banking conference at
the ECB8, prolonged periods of low and stable inflation - like those that OECD countries have been
experiencing for several years now - can give rise to distortions in empirical analyses, and can make it
extremely difficult to correctly assess the informational content of a specific indicator of future inflation.
To put it differently, in an equilibrium in which the central bank is successful at keeping inflation low
and within a narrow range, the empirical relationship between inflation and any indicator tends to
disappear. This is precisely why the experience of the Great Inflation - which can be regarded as the
ultimate off-equilibrium event - is important. That persistent and prolonged deviation from equilibrium
revealed, in a fundamental sense, the authentic nature of reality, which today, in a stable, low-inflation
world, has become more difficult to extract from the data. And so, in the same way as the experience
of the Weimar Republic hyperinflation was the key "founding memory" for the Bundesbank, or the
dramatic experience of the revolutionary "assignats" for Banque de France,9 the experience of the
Great Inflation can be regarded by today's central banks as the cornerstone of their institutional
architecture. Indeed, as pointed out by the Vice Chairman of the Federal Reserve,10 "[g]reater support
for independent central banks [...] was one of the results of the lessons of the great inflation of the
1970s."
Third, it is important to note that the link between money growth and inflation can be blurred by
systematic fluctuations in the velocity of money. Recent work carried out at the Swiss National Bank11
has shown that, after controlling for systematic shifts in the equilibrium component of money velocity
caused by Fisherian movements in the opportunity cost of money, the long-run relationship between
money growth and subsequent inflation is still in the data, and not only for the euro area, but also for
the United States, where the stability of such a relationship has been most strongly questioned in the
past. This finding suggests that monetary indicators should not be hastily discarded when their link
with inflation appears to have weakened. Rather, it suggests that monetary data should be subjected
to a thorough and broad-based analysis, in order to filter out the noise and to fully understand
movements in trend velocity which distort their low-frequency signal for long-term risks to price
stability.
The new Swiss monetary policy concept: an ECB perspective
From 1974 until the end of the century, the Swiss National Bank consistently pursued a strategy of
targeting monetary aggregates, announcing targets first for M1, and then, from 1980, for the monetary
base. (Only during a very brief period in 1978-1979 did the SNB abandon monetary targeting in favour
of an exchange rate target.) Owing to the increasing instability of the monetary base over the second
half of the 1990s, however, the SNB decided, at the end of 1999, to announce a new monetary policy
framework. The new framework is based on three key elements:
•
An explicit definition of price stability "[...] expressed in terms of the headline CPI. [The SNB]
defines price stability in the same manner as the European Central Bank, [as] a CPI inflation
rate of less than 2 per cent per year."12
•
An inflation forecast as the main communication tool in order to explain to the public the
rationale behind monetary policy decisions.
•
From an operational point of view, a range for the three-month LIBOR rate as the way to
actually implement policy decisions in practice.
I find from time to time statements suggesting that, with its new monetary policy strategy, the SNB has
essentially renounced its monetarist past. I believe such a position to be incorrect, and in what follows
I will make two main points. First, I will stress the significant elements of continuity with the pre-2000
monetary policy strategy. Second, I will argue that, if one looks carefully at the details, the monetary
policy strategy of the Swiss National Bank is, in many respects, quite close to that of the European
Central Bank. Let me elaborate on these points in turn.
As stressed by SNB staff members13, the SNB
"[...] retained important ingredients of monetary targeting in its new monetary policy concept. At
various occasions, the SNB stressed that it continues to monitor two sets of indicators providing
leading information on future price developments [...]. The first set of indicators is useful for
forecasting short-run price developments, i.e. over a horizon of one and a half to two years. It includes
various indicators of the cyclical state of the economy, notably the output gap and supply and demand
conditions in the labour market, as well as the real exchange rate of the Swiss franc. The second set
of indicators comprises the monetary aggregates, which provide useful leading information on long-run
price developments."
The elements of continuity with the pre-2000 strategy emerge quite clearly, in particular in the form of
the important role assigned to a deep analysis of monetary aggregates. The justification for closely
monitoring monetary aggregates, their components, and their counterparts, is the same as that given
by the European Central Bank, namely the information content they comprehend as regards inflation
in the long run, which has been documented for both Switzerland and the euro area. Precisely
because of this long-run link with inflation, and of the previously mentioned lead of trend money growth
over trend inflation, a strong upward trend in money growth points to the existence of upward risks to
the profile for trend inflation. When the ECB started raising rates in December 2005, for example,
monetary analysis, and a close monitoring of trends in a number of money supply indicators, played a
crucial role, by highlighting risks to the inflation profile which were not, at the time, immediately
apparent just from the economic analysis. As the "Financial Times"14 recently pointed out, the decision
to raise rates, at that time "controversial", has been, 18 months later, "vindicated" by subsequent
events.
The SNB's differentiation between the two groups of indicator variables - on the one hand, short to
medium-run indicators, such as a range of statistics including, prominently, inflation itself; on the other
hand, monetary indicators, mostly relevant at a longer horizon - is clearly reminiscent of the ECB's
"two-pillar" strategy. And research undertaken at the SNB15 has indeed shown such a dichotomy to
provide a good characterisation of short-term and medium to long-run inflation dynamics for both
Switzerland and the euro area.
A further important element common to both the SNB and the ECB is that neither central bank adjusts
its policy by mechanically reacting to deviations of the inflation forecast from their respective
definitions of price stability. Rather, both central banks focus on low-frequency - that is, trend -
movements in the variables of interest, and both are willing to see through the shocks that buffet the
economy occasionally from a medium-run perspective if overall macroeconomic circumstances require
it.
There are, of course, also differences between the monetary policy strategies of the ECB and the
SNB. For example, as I have already mentioned, at the SNB monetary information is taken into
account in the construction of the inflation forecast, while at the ECB the results from the monetary
analysis are used by the Governing Council to cross-check - on the basis of an expanding range of
monetary tools - the signals coming from the economic analysis. In a sense, the SNB delegates the
"cross-checking" activity to the projection process, whereas the ECB assigns that responsibility to the
Governing Council, once the projection process has run its course independently. At that point, we
cross-check the outputs coming from models and formal frameworks, often from within a variety of
non-nested alternatives. We adopt something similar to what my friend Alan Greenspan would call a
Bayesian approach to policy and Alan Blinder would describe as a rough approximation of optimal
information processing: "Use a wide variety of models, and don't ever trust any one of them too
much."16
I view these differences as minor. Our two central banks conduct similar exercises in robust
policymaking within a shared framework of common principles: a clear definition of price stability, a
mediumterm policy orientation, and an important role assigned to monetary indicators for the assessment of
longer-term risks to price stability.
Conclusions
Permettez-moi en conclusion, cher Jean-Pierre, cher Président, de souligner trois points.
D'abord, il est particulièrement émouvant pour l'ancien gouverneur de la Banque de France que je
suis, d'être à Zurich. Nous avions célébré le 200ième anniversaire de la Banque de France, il y a 7
ans, en rendant un vibrant hommage à un citoyen suisse. La Banque de France a été créée par
Napoléon en 1800 sur une proposition du financier Jean-Frédéric Perregaux, qui en a été ensuite le
responsable. Monsieur Perregaux était l'un de ces financiers suisses, à la fois très imaginatifs, très
sages et très prudents, dont la réputation est légendaire à travers les siècles.
Anschließend möchte ich hervorheben, wie vorbildlich die Beziehungen sind, die alle Zentralbanken
der Welt mit der Schweiz sowie der Schweizerischen Nationalbank unterhalten. Die Offenheit der SNB
und ihre aktive Beteiligung an geldpolitischen Fragestellungen und der geldpolitischen Forschung auf
europäischer und internationaler Ebene werden sehr geschätzt. Jean-Pierre Roth, dem wir unsere
regelmäßigen Zusammenkünfte in Basel zu verdanken haben, leistet als Präsident des
Verwaltungsrats der Bank für Internationalen Zahlungsausgleich hervorragende Arbeit. Ihm möchte
ich heute meine besondere Anerkennung aussprechen.
Finally, let me particularly emphasise that price stability is a necessary condition for sustainable
growth and sustainable job creation. I made the point recently several times that since the creation of
the Euro on the 1st of January 1999, during the first eight years, more than 12 million jobs were
created in the euro area. I underlined it could be compared with less than 3 million during the eight
years before the Euro. I also stressed that the current level of unemployment, at 7.1%, is the lowest for
25 years. Can I also stress here in Switzerland that the sound and wise monetary policy of the Swiss
Central Bank and the level of price stability which has been attained throughout the last hundred years
are one of the major causes of the full employment success of your country.
I thank you for your attention.
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