yves mersch : financial stability policies in central banks speech by mr yves mersch, member of the executive board of the european central bank, at the seminar : “ financial stability policies in a post - crisis world ”, czech national bank, prague, 4 march 2013. * * * financial cycles and the real economy the global financial crisis has resulted in enormous losses for the real economy and taxpayers in many countries. for policy - makers it has triggered a re - discovery of the analysis of financial cycles and their impact on macroeconomic dynamics. although important steps have been taken to improve the prevailing analytical framework, e. g. by incorporating financial frictions in general equilibrium models, these models are in most cases not yet capable of properly taking into account the relationship between the real economy and the financial markets. i fully agree in this regard with claudio borio, who has published ( together with his colleagues at the bis ) a range of analytical papers on this topic in the last few years and stated that a proper understanding of financial and leverage cycles is essential for effective policy - making. indeed, we are aware of the shortcomings of our analytical capacity and attach high priority to enhancing our knowledge of the interactions between financial and real economic cycles. this will be key to helping decision - makers find the appropriate policy responses to the build - up of excessive systemic risks and thus to prevent the real economy, and ultimately the taxpayers, from the potential adverse impacts of unsustainable financial imbalances. the institutional framework and instruments of macro - prudential policy systemic risks require a comprehensive, systemic policy response. a number of concrete measures have already been taken around the world to set up an appropriate institutional framework for systemic risk analysis and macro - prudential policy - making. given, however, that we are currently in the “ infancy ” of macro - prudential policy - making, the evolving institutional framework still varies quite substantially across jurisdictions. we have models of single institutions ( typically central banks ), or, alternatively, financial stability boards or committees that are designated to carry out macro - prudential policies. from a financial stability perspective, it is important that the authorities responsible for macro - prudential policies should have ( i ) a well - defined mandate, ( ii ) clearly established long - term and intermediate objectives, and ( iii ) sufficient control over macro - prudential instruments that can be activated ( or de - activated ) in periods when risks to financial stability have been identified. macro - pr

area have exceeded the 3 % reference value for the deficit ratio. under these circumstances, the stability and growth pact, which has been put in place to safeguard sound and sustainable fiscal positions, should be rigorously applied. the ecb calls to strengthen the governments ’ commitment to strictly adhere to its provisions. national policy makers should give fiscal consolidation top priority in the context of ongoing economic recovery, and bring the deficit ratio to below 3 % of gdp in line with the ecofin recommendations. based on the stability programme updates, governments appear to be on track this year, but further measures will be necessary in the coming years to correct excessive deficits within the set time horizon. as regards the composition of the fiscal adjustment, we welcome a focus on the expenditure side, because the size of the public sector has significantly increased in the crisis and because expenditure - based consolidation has proven to be more effective in the past. governments can enhance the credibility of fiscal consolidation by strengthening national budgetary frameworks and implementing structural reforms to increase potential growth. in this context, i welcome the european commission ’ s initiative for a europe 2020 strategy and the stronger role of the eurogroup in multilateral country surveillance which is overdue. at the same time, it is important that fiscal surveillance under the pact remains a process of its own right and that the fundamental principles of the treaty and the pact are fully preserved. a successful exit from the strong fiscal expansion in the wake of the recent crisis will require ambitious measures and a strong political will regarding implementation. i am confident that european fiscal policy makers will succeed in restoring the sustainability of public finances. the adjustment efforts undertaken by the irish government and more recently by the greek government can be seen as promising first steps in the upcoming consolidation process. policy responses to imbalances one of the main drivers of the financial crisis were the large global external imbalances. these imbalances implied massive capital inflows into deficit countries. those inflows had partly been financed by the issuance of financial instruments, whose value was shattered in the turmoil. the imbalances reflected a lack of medium - term orientation towards stability and sustainability of macroeconomic policies in key deficit and surplus economies. the euro area did not contribute to the build - up in global imbalances. its current account has remained close to balance over the years. the crisis has induced a partial reduction in global imbalances, but this correction appears to be largely cyclical. some important structural factors that led to unsustainable