Gertrude Tumpel-Gugerell: The ECB's actions during the recent crisis
and the policy elements needed for a sound recovery
Speech by Ms Gertrude Tumpel-Gugerell, Member of the Executive Board of the European
Central Bank, at the conference on "How can the EU and China contribute to a sound and
sustainable global economic recovery?" at the Shanghai Expo, Shanghai, 3 July 2010.
* * *
Ladies and Gentlemen,
I am greatly honoured to speak here today at the World Expo 2010 in Shanghai, the first one
in China. Two days ago I had the chance to visit the Expo myself and I am truly fascinated by
the window to the world and its perfect organisation. I am told that the emblem of the Expo is
inspired by the Chinese character for "world", and that there is a popular saying in China,
which goes: "The world is wonderful, if you don't see it, you don't know" (shijie zhen qimiao,
bu kan bu zhidao). I think this saying describes not only the atmosphere at the Shanghai
Expo quite well, but also China's general attitude towards today's globalised world. And one
could turn it around and say: "If you have not seen China, you can not imagine how
wonderful it is" - and I have no doubt that it will one day become a major global financial
centre as well.
The financial crisis has hit the global economy and has led to losses of income and costs to
the system around the globe. Today, we are focusing on how the EU and China can
contribute to a sound and sustainable global economic recovery, which is in the interest of all
of us. We are here to discuss the policies needed to address the financial instabilities that we
were faced with and we need to discuss the policies that will steer our economies back to a
sustainable long term growth path.
Let me give you my key message in this regard right up front: I believe that the recovery in
Europe is well on track and that we have the right policies in place to ensure the return to the
levels of growth we have seen prior to the crisis.
In my speech today, I will take the opportunity to discuss how the European Central Bank
(ECB) has responded to the adverse effects of the financial crisis since 2007 and how this
has not only prevented worse outcomes but has also contributed in the current environment
to setting the stage for a sound recovery in Europe. Indeed, also on the basis of low interest
rates all along the money market yield curve, providing attractive financing conditions, the
economy is expanding and we see a positive growth outlook.
I will also outline which policies - in my view - are needed for the recovery to be sustainable
with the prospect of long term growth. First, structural reform policies to strengthen overall
growth prospects. Second, a financial market sector reform (which is well on track), Third,
fiscal consolidation (which is also well on track) and fourth, the continuous concentration of
monetary policy to be directed at medium term price stability as this is the necessary and
crucial contribution of monetary policy to fostering sustainable economic growth, job creation
and financial stability.
Price stability and financial stability are indispensable elements shaping the outlook for global
growth. A third element is sound public finances. But before addressing these issues, let me
give you some ideas on what the ECB has done during the crisis.
The ECB's actions during the crisis
Recent years have been most challenging across the globe. What started as tensions in the
money market in August 2007 quickly spread around the globe, leading to severe
repercussions across economies and markets.
After the failure of Lehman Brothers in September 2008, we saw a sharp fall in global
activity. In the fourth quarter of 2008 and the first quarter of 2009, global trade volumes fell
by 18 percent. This development was also felt here in China, where year-on-year GDP
growth decelerated to 6.2% in the first quarter of 2009 from 9.1% in the third quarter of 2008
and trade values decreased by 33% from September 2008 to March 2009. In the euro area,
real GDP fell by altogether almost 4.5 percent and unemployment rose by 1.4 percentage
points in just six months. At the same time, extra-euro area export volumes of goods
decreased by 18.0% and import volumes by 12.8%.
The ECB acted quickly and decisively in response to the crisis. We reduced our key interest
rates to unprecedented low levels. The interest rate at the main refinancing operations was
lowered by 325 basis points to 1.0% between October 2008 and May 2009, i.e. within a
period of only seven months. And, we have left it unchanged since then. In addition, we
introduced a series of non-standard measures to support credit provision by banks to the
euro area economy.
Our non-standard measures were designed to sustain financing conditions and credit flows
above and beyond what could be achieved through reductions in key ECB interest rates
alone. These measures, which we refer to as "enhanced credit support", included essentially
five elements: We lengthened the maximum maturity of refinancing operations, we extended
the eligible collateral list, we provided liquidity in foreign currencies, we initiated a covered
bond purchase programme, and, above all, we provided unlimited liquidity in all refinancing
operations at a fixed rate.
The enhanced credit support led to a considerable improvement in market liquidity and
helped to alleviate funding risks. As a result of our actions, money market interest rates,
money market spreads and interest rates on bank loans declined significantly.
In early May of this year, we were confronted with renewed market tensions. These tensions
arose in some segments of the euro area debt securities markets. Again, after carefully
considering the situation, we decided to act, since the tensions were hampering the
monetary policy transmission mechanism. We launched the Securities Markets Programme
to ensure depth and liquidity in those market segments which are dysfunctional. The
objective of this programme is to address the malfunctioning of securities markets and to
ensure the proper transmission of monetary policy impulses to the wider economy and,
ultimately, to the general price level.
Overall, all the non-standard measures we have taken have been consistent with our
mandate to deliver price stability for the euro area as a whole. From the very beginning, we
have made clear that those measures are, by construction, temporary in nature. In fact, the
Governing Council remains firmly committed to its price stability objective. This is credible for
financial market participants and the public, as reflected in inflation expectations that are
firmly anchored at levels in line with the aim of the ECB's Governing Council to keep inflation
rates below, but close to 2% over the medium term.
Elements needed for a sound economic recovery
The ECB measures were indispensable to support the functioning of the euro area banking
sector and to prevent worse outcomes during the crisis. But with our contribution to attractive
financing conditions and the smooth functioning of money and credit markets, the ECB has
also contributed to bringing the euro area economy on the recovery track.
Indeed, the economic recovery in the euro area is well on track. After a period of sharp
decline, euro area economic activity has been expanding since mid-2009. Business and
consumer confidence indicators have been trending upwards over the last quarters and the
June 2010 Eurosystem staff macroeconomic projections - but also those of other
organizations - see a further rebound in GDP growth to take place in 2010 and 2011.
This notwithstanding and taking a longer term perspective, I believe that more is needed for
this recovery to be solid, sustainable and long lasting. So let me outline which policies - in
my view - are needed to achieve good prospects of long term growth with at the same time
ensuring both, price stability and financial stability. In the following, I will mention four policy
elements. First, the strengthening of growth prospects through structural reforms. Second,
fiscal consolidation aiming at sustainable fiscal positions. Third, monetary policy geared
towards price stability and finally a comprehensive reform of the financial sector.
First, strengthening growth prospects. Structural reforms leading to higher growth and
employment are crucial to support a sustainable recovery.
We know very well that structural reforms pay off. For instance, measures which increase
competition in the consumer markets can curtail monopoly rents and lead to higher
employment and output. The introduction of the Single Market, for instance, has - according
to estimates of decreased monopoly rents by a quarter.1 Studies have also found that this
may have increased potential output in the range of 5-10 percent.2 Also labour market
reforms, such as for instance an adjustment of the unemployment benefit replacement ratio
by 5 percentage points has been estimated to give rise to 1.5% more output and 1.7% more
employment over a period of 5 years.3
Therefore, policies to enhance competition and innovation are needed to speed up
restructuring and investment and to create new business opportunities. Increased labour
market flexibility, but also investments in education and research are required to create
employment opportunities and enhance competitiveness. Restructuring of the banking
sector, aiming at solid business models, better risk management and increased transparency
will be key.
In this respect, the European Commission has recently put forward its Europe 2020 strategy.
The aim of this strategy is to deliver higher levels of employment, productivity and social
cohesion. Europe can come out stronger from the crisis, if it seizes this opportunity to
implement the reforms that are necessary.
Second, fiscal sustainability. Sound public finances are the basis for an economy to prosper
and to develop in a sustainable way. This is particularly important in a monetary union, such
as the euro area, where sixteen individual countries have a common monetary policy.
A number of euro area governments have adopted fiscal consolidation measures and set out
ambitious fiscal targets. On 7 June, the euro area finance ministers agreed on the spring
2010 orientations for fiscal policies in euro area countries. We welcome the commitment to
take additional measures, where needed, in order to ensure the achievement of the
budgetary targets for 2010 and beyond.
Will these consolidation efforts have a negative impact on growth? In the short run, the effect
will very much depend on the economic outlook and to what extent public demand will be
replaced by private demand. Our current estimates foresee some dampening impact on
growth, but not a very significant one, depending on the fiscal instrument that is used. In the
long run, however, the benefits of fiscal consolidation prevail. An illustrative analysis of
multi-year fiscal consolidation programmes conducted by our experts which we have
published in the July edition of our Monthly Bulletin suggests that the long-term economic
gains of restoring sound fiscal positions in the euro area outweigh by far the short-run costs.
According to model simulations, long-run benefits of a permanent reduction in the euro area
debt-to-GDP ratio over the years from 90% to 60% are generally in the range of 0.4-2.2% of
initial steady-state real GDP.4
Therefore, cohesive action at a European level is essential. Each country needs to live up to
its responsibilities, and European governments need to work together. This goes hand in
hand with the conclusions of the G20 meeting in Toronto last weekend, where the
G20 economies committed to fiscal plans that will at least halve deficits by 2013 and stabilize
or reduce government debt-to-GDP ratios by 2016. This should support a sound, longer-term
economic recovery on a global level.
Third, price stability, which is our primary objective. As I have mentioned, we have used both
standard and non-standard, temporary monetary policy measures during the crisis period to
ensure price stability.
We remain firmly committed to price stability over the medium to longer term. We have done
so in the past - with average annual inflation in the euro area over the past 11 years since
the inception of the euro of only 1.98% - and we will do so in future.
This is also seen by financial market participants. In particular, inflation expectations in the
euro area have remained well-anchored in line with the Governing Council's definition of
price stability, also throughout the financial crisis. This can be seen in different indicators, for
example in the Survey of Professional Forecasters, where inflation five years ahead is
continuously expected to stand either at 1.9% or 2.0% since the beginning of 2002.
Thus, the ECB is credible in the delivery of price stability. This credibility is not only key in the
implementation of monetary policy, but it is the necessary and central contribution that
monetary policy makes to fostering sustainable economic growth, job creation and financial
stability.
Fourth, financial stability. It is important to step up efforts to ensure financial stability. In many
respects, the recent crisis can be seen as the direct result of vulnerabilities and imbalances
in the financial system. We have all felt the negative effects that the financial crisis had on
economies around the globe.
To build a safer financial system, the responsible authorities need to enhance their financial
sector surveillance, both at a micro-prudential and macro-prudential level. Financial
institutions also play a decisive role, as they have to improve their risk management
practices. A key challenge for policy-makers will be to design appropriate responses to
enhance the stability of the financial system without imposing restrictions that would
unnecessarily hamper financial innovation and reduce the efficiency of the system.
At the micro-prudential level, several initiatives are now underway to create more effective
supervisory regulation, taking into account the lessons learnt from the crisis. The proposals
of the Basel Committee - known as "Basel III" - aim at enhancing capital and liquidity
regulation to improve loss absorption, mitigate procyclicality and increase the resilience
against shocks. These measures - when phased in gradually with the economy recovering -
contribute to long term economic growth, not least by preventing such high costs of a crisis
we are currently experiencing.
If there is one uncontested lesson from the crisis it is that systemic risks were largely
underestimated and, therefore, make the development of a comprehensive macroprudential
supervision absolutely essential.
An effective macro-prudential framework aims at delivering a thorough analysis of systemic
risks, as well as the formulation of appropriate policies to address such risks identifying, in a
timely fashion, the emergence and build up of critical vulnerabilities, and deciding on
effective (pre-emptive) intervention.
Central banks have a very important role in this regard. At the European level, a new body
will be set up: the European Systemic Risk Board (ESRB), which will be an independent
body responsible for conducting macro-prudential oversight of the EU's financial system as a
whole and which will be supported analytically and logistically by the ECB.
The ESRB should be seen as a component of a global framework of macro-prudential
oversight, also allowing it to contribute to the assessment and containment of global risks. In
this sense, systemic risk surveillance and preventing those risks from materializing will be a
key contribution to sustainable long term growth prospects.
Conclusion
Let me conclude.
The global crisis of the last years has shown that policymakers around the globe have acted
successfully. Confidence has come back. With our policy actions, we at the ECB have
supported credit flows to the economy and thus dampened the negative effects of the crisis
to the extent possible. Looking ahead, we now need to draw lessons from the crisis and
focus on the elements that ensure that the global recovery is sound and sustainable.
For this, I believe four elements are essential. These are strengthening growth prospects,
fiscal sustainability, price stability and financial stability.
For price stability and financial stability, central banks play a key role. They will shape the
global recovery by maintaining price stability and safeguarding financial stability. Price
stability is the central contribution that monetary policy makes to economic growth, to job
creation and to financial stability.
Financial stability, in turn, will be a major focus of policy-makers in the aftermath of the crisis.
Central banks have specific tasks and responsibilities in this domain. For example, the ECB
will contribute to the ESRB to conduct macro-prudential oversight at a European level.
Of course, central banks cannot act alone. Actions are required to address all conditions and
challenges to spur long term economic growth. We all have to work together. National
governments, regulators and supervisors, and the private sector and financial industry have
to proceed with the difficult, but vital, measures required to ensure a sound basis for
economic growth.
With China being one of the most important trading partners for the euro area and vice versa,
recovery in the euro area and China is in our mutual interest. I am confident that we are on a
good track.
Thank you for your attention.