axel a weber : the role of forecasting for central banks keynote address by professor axel a weber, president of the deutsche bundesbank, at the conference on “ forecasting and monetary policy ”, organised by the deutsche bundesbank, freie universitat berlin and the viessmann european research centre, berlin, 23 march 2009. * * * ladies and gentlemen, it is a great pleasure for me to participate in this conference and to be able to share with you some views on what contribution forecasting can make to monetary policy. the role of forecasting in the eurosystem the reason why central bankers have a strong interest in forecasting is straightforward : because of substantial and variable lags in the monetary policy transmission mechanism, central banks cannot influence current inflation and output. given these time lags, it is widely recognised that monetary policy should be forward - looking and take a medium - term perspective. furthermore, the publication of forecasts helps to anchor the expectations of firms and households, thereby making the central bank more effective in fulfilling its objective. as a consequence, forecasts for inflation, output and other macroeconomic variables are an essential input in the monetary policy decision - making process. forecasting also has an important role to play in the eurosystem, albeit a less prominent one than in central banks pursuing an inflation - targeting strategy. the eurosystem ’ s governing council bases its comprehensive assessment of the risks to price stability and its policy decisions on a broad spectrum of information provided by two analytical tools : the economic analysis and the monetary analysis. the monetary analysis assesses medium to long - term developments in inflation based on the well - established relationship between money and prices over long horizons. monetary analysis takes into account developments in a wide range of monetary indicators including m3, its components and counterparts, notably credit, and measures of excess liquidity. the economic analysis identifies short to medium - term risks to price stability. it includes regular monitoring of a broad set of non - monetary economic and financial variables, such as developments in overall output, labour market developments and financial market indicators. projections of key macroeconomic variables carried out by eurosystem staff are also an integral part of the economic analysis.. of course, differences in strategy mean forecasts play a somewhat different role in the eurosystem than at central banks pursuing an inflation targeting strategy : for example, it is important to note that these forecasts are carried out under the sole responsibility of the eurosystem staff, not

to my mind, assessing risks only in a qualitative, verbal manner strikes a good balance between expressing our view on the degree of uncertainty related to the forecast and, at the same time, showing an awareness of the general limitations of risk assessments. current assessment of economic development forecasting risk and uncertainty is currently of particular interest to central bankers, as forecast uncertainty has reached a comparatively high level. because the scale and speed of the current economic downturn is unlike anything seen in the last few decades, forecast uncertainty can at present be incorporated into econometric analyses to a limited extent only. conversely, “ judgement - based risk management ” has become extremely important. however, despite an active exchange between modellers and macroeconomic experts, economic forecasts for 2009 and 2010 have repeatedly been revised downward since last autumn as downside risk has been realised both in the euro area and globally. yet from now onwards, with substantial macroeconomic stimulus under way and extensive financial system rescue schemes in place, the risks to the economic outlook in the euro area should become more balanced. on the one hand, confidence and growth effects may be stronger than anticipated as a result of the enormous scale of expansionary monetary and fiscal policies worldwide. on the other hand, there remains, of course, the risk that the economic downturn in the euro area might become more severe than the staff projections indicate, for instance because of negative feedback effects from the financial system. nevertheless, the degree of uncertainty surrounding the outlook for both the economy and inflation remains substantial. in order to fulfil our mandate and to contribute to financial stability and sustainable economic growth, the eurosystem has been providing unlimited liquidity support to the euro - area banking system since october last year. the governing council has decided to continue the non - standard liquidity support beyond the end of 2009 in any case. as a direct consequence of this ample supply of liquidity, the eurosystem has augmented its balance sheet by more than 600 billion euro since the start of the financial crisis in august 2007. at the same time, our monetary policy operations are having a visible effect on overnight money market rates in the euro area. furthermore, the ecb governing council has cut interest rates sharply to unprecedented levels. and we still have room to cut interest rates further. but it is essential to bear in mind that an expansionary monetary policy comes at the price of creating a breeding ground for future risks to price stability. it might therefore prove useful to keep at hand instruments that enable