olli rehn : impact of structural economic changes on monetary and macroprudential policies keynote speech by mr olli rehn, governor of the bank of finland, at the 2019 risklab / bof / esrb conference on systemic risk analytics, helsinki, 24 may 2019. * * * ladies and gentlemen, welcome to the bank of finland. i want to thank the co - organisers, the european systemic risk board and risklab, for the opportunity to share my thoughts at this conference on systemic risk analytics – not least because in the aftermath of the global financial crisis, the maintenance of financial stability has regained its original position as the second key pillar of central banking policy. this comeback stems from certain permanent features of our economies and their development. modern economies are in constant change. some changes are cyclical. economic variables like gdp, housing prices and the volume of lending often increase strongly in upturns and decrease equally strongly in downturns. at times, economies are hit by booms. at other times, they are hit by downturns and recessions. economies are also subject to more fundamental, longer - term changes. in economic history, major changes in technology, population growth and economic systems have had sweeping effects on economic growth, the welfare of citizens and the birth and death of occupations and industries. it is our task – as economists, social scientists and other scholars – to try to identify the key short - term and long - term economic changes and to weigh their consequences, benefits and risks. the policymakers´ challenge, in turn, is to make proper adjustments in their economic and other policies when old policies become outdated for the new world. in this keynote, i try to identify some major ongoing economic changes that in my view require a rethinking of current monetary policy strategies and macroprudential policies. structural economic changes and monetary policy let us start from the monetary policy, in general and in the euro area. before addressing the longer - term issues, it may be worthwhile to remind ourselves of the major economic recovery that has taken place in the euro area since 2013. in five years, more than 10 million new jobs have been created. unemployment – although still too high – has declined by 4 percentage points to below 8 per cent. the accommodative monetary policy of the european central bank has substantially contributed to the recovery. recently, the global growth outlook has been shadowed by significant uncertainty. the trade tensions between the us and china have escalated

of thought that the head of ecb ’ s financial stability division, ignazio angeloni, aired recently by stating that “... very often [ the ceo ’ s ] don ’ t know what ’ s going on, and they don ’ t understand because it is very, very complicated ”. 16 the supervisors face similar challenges. i think it is safe to say that the simplification of the structure of the largest, most complex european banks would facilitate the task, not only of the national supervisors, but also of the single supervisory mechanism. finally and perhaps most importantly, i would once more like to emphasize that structural reforms are essential to make resolution of systemically important financial institution ex ante credible, even in the midst of a systemic crisis. if there is even a slightest doubt that the resolution tools will not be applied, the adverse implications of the too - big - to - fail assumption on market discipline, funding costs and risk - taking incentives will prevail. a forthcoming journal of finance paper by gandhi and lustig show that a “ tail - risk subsidy ” can explain differences in equity returns of large and small banks. 17 interestingly this “ tailrisk subsidy ” grew dramatically as the glass - steagall was dismantled. as previously noted, we have often seen that market discipline ultimately enforces structural changes which promote efficiency in non - financial industries. unfortunately, the evidence suggests that the financial industry may be trapped in a “ bad equilibrium ” of weak market discipline and inefficient structures. hence a push from structural regulatory reforms is needed to move the financial industry to a “ good equilibrium ” with strong market discipline and efficient structures. [ slide 17 – hleg proposal ] thus we in the group proposed the separation of core commercial banking which is allowed to take insured deposits from trading and market making activities which are not allowed to take deposits. financial linkages between the separated entities need to be limited in order to make the separation effective. trading and the bulk of market making should be moved together to the separate entity. this is because it is very difficult to make the distinction between the two and any rules would be prone to circumvention. separation does not touch the universal banking model because the deposit bank and the trading entity are still allowed to be part of the same group. moreover, mandatory separation would only apply to the largest institutions, consistent with the aim of tackling the too - big - to - fail problem. [ slide 18 – st