the price of safe assets at a time when the supply of those assets has been shrinking, thereby compressing real yields. factors such as a decline in the relative price of capital goods have also led to a fall in desired investment. and this has been exacerbated by the third factor : the debt overhang in the public and private sectors bequeathed by the financial crisis. this has further raised saving – as all sectors deleverage – and depressed investment and consumption. as a consequence, the natural rate of interest – which is the real interest rate that balances desired saving and planned investment, at a level consistent with output being at potential and stable prices – has fallen over time, to very low or even negative levels. and whatever the drivers behind this, central banks have to take it into account and cut their policy rates to commensurately lower levels. indeed, the way standard monetary policy works is to steer real short - term interest rates so that they “ shadow ” the natural rate, which keeps the economy in balance and prices stable. when inflation is below our objective and there is a negative output gap, monetary policy has to bring real rates below the natural rate to provide enough demand support. and when inflation is above our objective and the output gap is positive, the reverse is true. if central banks did not act in this way – that is, if they did not lower short - term rates in tandem with the natural rate – market rates would be too high relative to the real returns in the economy, and investing would become unattractive. the economy would therefore be pushed away from full capacity and price stability. by contrast, by holding market rates below the real rate of return, we encourage the investment and consumption that is needed to bring the economy back to potential. there are of course limits to how far central banks can shadow a falling natural rate with policy interest rates, since there is a lower bound for interest rates set by the existence of cash. but even when monetary policy approaches this point, central banks can still stimulate the economy through the same mechanism. this is because we can still influence the whole constellation of market interest rates and asset prices in the economy that determine real investment and consumption decisions. through forward guidance we can flatten the risk - free curve. through asset purchases we can compress additional risk premia, both directly in the markets where we intervene and indirectly through portfolio rebalancing. and through long - term loans to banks we can bring down bank lending rates

have to step up its level of support. a policy of preserving favourable financing conditions includes a second element. to ultimately empower fiscal policy as a transmission channel of monetary policy, the ecb needs to provide liquidity when risks of self - fulfilling price spirals threaten to undermine stability in the euro area as a whole. as was the case during the pandemic, this may require temporary flexibility in the use of instruments. being clear about this upfront reduces the emergence of destabilising dynamics in the first place and minimises the extent of interventions when they are needed. in such situations, risks of moral hazard should not condemn the central bank to a course of inaction. these risks should be governed by other institutions outside crisis times. the lesson for fiscal policy is that, in lower bound episodes, it has to become more responsive to downturns. this requires fiscal tools that are specifically designed to provide macroeconomic stabilisation, ideally at the euro area level, but at least at the national level. put simply, unconventional monetary policy needs to be complemented by unconventional fiscal policy. the concept of unconventional fiscal policy is not yet well established. [ 12 ] a simple google search, for example, returns more than 700, 000 results for unconventional monetary policy but only about 8, 000 entries for unconventional fiscal policy. in essence, unconventional fiscal policy comprises measures that go beyond traditional automatic stabilisers, which tend to be too small to offset the effects of an adverse demand shock at the lower bound. these unconventional measures are only activated when the economy heads into a deep recession. in the united states, for example, the length of unemployment benefits automatically increases as soon as the unemployment rate exceeds a certain threshold. the use of job furlough schemes in large parts of the euro area in response to the pandemic is another powerful example of how unconventional fiscal policies can stabilise household incomes to avoid risks of long - term scarring. similarly, theoretical and empirical evidence suggests that budget - neutral policies that work through the revenue side – for example, by engineering a specific path for consumption and labour taxes over time – can effectively support the efforts by central banks to boost inflation expectations and consumer spending at the lower bound. creating a framework for effective stabilisation in the euro area refocusing stabilisation along these lines requires an institutional framework that reliably creates space for fiscal policy in good times and allows this space to be used in bad times to provide a policy mix that