The euro-area economy and the recent monetary policy decisions
Speech by Ignazio Visco
Governor of the Bank of Italy
Giornate di economia "Marcello De Cecco"
Lanciano (Italy), 28 September 2019
First of all, thank you for your kind invitation to take part in this panel on "Europe
for All" which concludes this second day of the "Giornate di economia" in memory of
Marcello De Cecco. Marcello followed the ECB Governing Council's decisions and the
related analyses and discussions with great interest and with the acumen for which
he was known. Today I would like to touch upon three points: 1) the monetary policy
decisions that we have just taken; 2) the economic analyses behind them; and 3) the
debate concerning, and our assessment of, the effectiveness of the various measures that
were adopted.
1. At its September meeting the ECB Governing Council introduced a very broad
package of expansionary measures. It lowered the interest rate on deposits that banks
make with the Eurosystem (the deposit facility), which has been in negative territory since
June 2014, by 10 basis points to -0.5 per cent. It decided to restart net asset purchases
at a monthly pace of €20 billion beginning in November, after they were interrupted in
December of last year, when they amounted to €2,600 billion since their launch at the
end of 2014. It relaxed the terms of its new series of targeted longer-term refinancing
operations (TLTRO III) compared with those of the June decision by lowering their cost (to
-0.5 or 0.0 per cent depending on the lending performance of the individual banks) and
by extending their maturity (from two to three years). It introduced a zero interest rate, as
opposed to a negative interest rate, on part of the banks' liquidity reserves ("tiering") to
attenuate the risk, feared by some observers, that increasingly negative interest rates on
the deposit facility could have counterproductive effects on banks' balance sheets and,
in turn, on lending.
In addition, we have strengthened our forward guidance concerning the future path
of monetary policy, signalling our expectation to keep the key ECB interest rates at their
present or lower values until inflation gets to a level consistently close to 2 per cent over
the medium term.
2. These decisions were not made in haste: they are the natural conclusion to the
analyses started quite some time ago by the Governing Council and, taken together, are
an appropriate and proportional response to the worsening macroeconomic outlook
for the euro area. In previous meetings, there was already broad agreement that the
outlook for economic activity and prices was disappointing. In July, we reiterated our
determination to intervene decisively if the medium-term inflation outlook failed to
improve.
Over the last few months, the signs of economic slowdown and weakening inflation
have instead intensified. Geopolitical tensions, including those relating to trade tariffs,
and the sharp decline in international trade recorded in the last few quarters have
continued to weigh on firms' confidence, on investment and on industrial production.
The assessments of those who, one year ago, expected that the weakening in economic
activity would prove temporary and would eventually subside have been shown to be
increasingly optimistic.
The slowdown was substantial for German and, though less so, Italian industrial
production, but it would be naïve to underestimate its scope by considering it an
asymmetric shock. If the worsening in the manufacturing sector proves to be persistent,
it will inevitably reverberate across the other sectors of the economy. This is confirmed
by the most recent data, which point to an area-wide slowdown in activity in the service
sector, especially in Germany.
In a slowing economy, it is no surprise that inflation has remained very moderate
and well below the objective of a close to 2 per cent annual increase in consumer prices
in the euro area; even with all the margins of uncertainty, the forecasts indicate that
inflation is expected to remain weak over the next two years.
We must counter the significant risk that the economic slowdown and the low
level of inflation translate into a permanent reduction in inflation expectations or a
re-emergence of the threat of deflation. The analyses conducted by the Bank of Italy
clearly demonstrate this risk, regardless of the measure of expected inflation used:
similar trends have been observed in the expectations derived from the financial
markets, which may be affected by excessive reactivity on the part of investors, and in
those obtained from surveys of professional forecasters, firms and households.
A very recent study by Bank of Italy economists finds that the medium- and
longterm inflation expectations in the ECB's Survey of Professional Forecasters are now much
more susceptible to negative surprises to current inflation than they were in the past.
This is a finding that confirms the one that our researchers had already obtained based
on inflation expectations derived from inflation swaps. By all measures, in recent months,
expectations have remained far from the objective of price stability; they increased
slightly in the spring, but then turned down again.
The Governing Council deemed it necessary to respond promptly to the worsening
economic situation, in order to reiterate its intention to confront weakening aggregate
demand and its effects on prices, to not fall behind the curve and to counter low inflation
expectations with determination. The global financial crisis and the sovereign debt crisis
have taught us that in these circumstances excessive prudence is counterproductive: by
not responding swiftly to the risks of too low inflation for too long, a lengthier and more
incisive measure, which carries greater risks of unintended side effects, is then needed to
counter the risk of deflation.
3. There was extensive discussion in the Governing Council on the decisions and
measures to introduce; of course, opinions varied and some reservations were expressed
regarding certain individual instruments and some of their characteristics. The package of
measures adopted received the approval of a majority of the members of the Governing
Council. The analyses conducted by the Bank of Italy indicate that there is no reason to
doubt their overall effectiveness.
In the current circumstances, uncertainty about the effects of the individual
instruments is naturally widespread, but our analyses suggest that the purchase
programme is, in the present conditions, the most effective instrument (aside from being
the most "conventional" one, given that open market operations have always featured in
central bankers' "toolbox"). Our estimates suggest that the impact of the new purchases
on economic activity and on inflation, through the contraction of term premia and the
transmission to the yields of all financial assets, can be much bigger today than that of a
cut in the official rates. From a conceptual and empirical perspective, there is no reason
to rule out the possibility of further contractions in term premia, which in any event had
already occurred with the consolidation of expectations of the new measures.
As I have often observed, the effects of a reduction in official rates to negative values
- the truly "unconventional" instrument among those introduced so far by the Governing
Council - are surrounded by greater uncertainty. We estimate that so far, the cuts in the
reference rates have had significant expansionary effects; down the road, however, their
effectiveness could prove more doubtful, especially in view of the downwards rigidity of
interest rates on deposits.
In any event, it should not be forgotten that the persistence of negative nominal
interest rates across a broad spectrum of maturities for lengthy periods cannot be
attributed solely to the decisions of central banks, which react to macroeconomic
conditions, but rather reflects the enduring underlying weakness of the economy and a
possible market response to a resurgence of Fisherian debt deflation. We are still quite
far from the "normal" economic conditions to which we ought to return (also in view
of the structural factors that could explain lower growth rates worldwide than in recent
decades).
The introduction of a two-tier system for bank reserve remuneration - which was
also adopted in other jurisdictions - is intended to prevent the reduction in official rates
to negative values from having, beyond a certain level, the undesirable side effect of
impairing banks' ability to grant credit and, therefore, from being transformed into a
restrictive factor. Nevertheless, encouraging greater trading between banks seeking
higher returns on their liquidity may spark tensions on money market rates, a risk that
is countered by the calibration chosen but one which must still be carefully monitored.
In its forward guidance, the Governing Council confirmed its determination to
respond symmetrically to inflation developments, in other words to intervene when
inflation falls below the target with the same determination as when it rises above it. The
aim is to avoid a further downward revision of inflation expectations, or the resurfacing
of the deflation risks we successfully countered three years ago, whilst simultaneously
guaranteeing financial conditions capable of supporting the economic cycle.
Monetary policy resolutely pursues the objective of price stability. To achieve the
maximum benefits from our action, the Governing Council unanimously agrees that,
given the slowdown in production and the significant downside risks that weigh on the
outlook, fiscal policy must make a more incisive contribution to strengthening aggregate
demand. During this phase, the countries that have room to intervene can play an
important stabilizing role; those with a high public debt must prioritize a rebalancing
of expenditure towards measures that are better able to support growth, such as public
investment, and to reduce the tax burden on businesses and employment.
* * *
In conclusion, I think that the package of measures we adopted was necessary and
appropriate to counter the cyclical risks and the weak inflation outlook, and fully in line
with our previous decisions. In the past, I have always avoided giving my opinion of
monetary policy decisions immediately after Governing Council meetings. I have decided
to do so today, a few weeks after the last decisions were taken, mainly because of the
recent media attention given to the discussion that followed that meeting.
Intense and detailed internal discussions on the monetary policy options are
indispensable, and always take place. Many observers have wondered whether the
dissemination of comments immediately following a common decision is a practice that is
counterproductive, useful or even necessary. We can debate the merits of introducing at
the ECB the procedure followed by other central banks, where, following their monetary
policy meetings, they publish the positions of the participants (as well as the reasons for
any disagreements). This solution, which I personally find appropriate, was at one point
considered but then rejected by the Governing Council.
In his remarkable scientific output, as in his numerous articles for the public at
large, Marcello De Cecco always highlighted the close ties between geopolitical issues
and economic events. It is interesting today to go back and read one of his last articles
published in Affari e Finanza at the end of 2015. It dealt with the decision adopted by
the ECB Governing Council in December of that year to expand asset purchases. Just as
happened a few days ago, a member of the Council had publicly expressed disagreement
with that decision; I am not sure that today the disagreement regarding the possible
results of that decision would have been expressed quite so forcefully.
I do not think that the comments made by some Governors at the end of the Governing
Council meeting were guided by preconceived ideas or by political considerations, as
Marcello seemed to think was the case back then, nor were they guided by an abstract
division into "hawks" and "doves" as the press sometimes likes to believe. I am sure
that these comments reflect the genuine conviction of Council members about the most
useful measures for the euro-area economy. However, in the institutional context of the
Economic and Monetary Union, it is still important to avoid the risk that, also due to the
extemporaneous nature of the remarks made, the positions of the individual Council
members be interpreted as an expression of national perspectives or interests, rather
than as relating to the area as a whole. For this reason, I believe we all need to work to
make our decision-making process as transparent as possible.