. i know that this is easier said than done. after a long period of cheap money, people expect the government to protect them from external shocks. but all else being equal, loose fiscal policies ultimately provoke a stronger monetary policy response. and if anyone has doubts as to the outcome of a face - off between fiscal and monetary policies, they need only look to the recent uk experience ( or rather experiment ). more generally, one reason why inflation could be more persistent than initially thought or estimated by our models is that workers and firms still have to agree on who foots the bill for higher energy prices. firms will try to protect their margins and workers their purchasing power. both have market power, and it may take a few iterations or, worse, a deeper recession before they can agree on how to share the burden. thus far, employees have been willing to take most of the hit. but like others, i am not sure that bygones are bygones and therefore expect the pass - through of inflation to wages to increase in the coming months. in any case, our monetary policy response will ultimately depend on the severity of the coming economic slowdown. two main scenarios could materialise. if the slowdown is shallow and accompanied by a further rise in inflation – and inflation expectations – real interest rates will have to move above the current market consensus. on the other hand, if the slowdown is more severe and leads to lower inflation, leaving expectations broadly anchored, real rates could stabilise at a level close to zero. in closing, my most important takeaway from the current inflation episode is that we know much less about inflation than we thought. we will of course do what needs to be done to 12 villeroy de galhau ( 2022 ). _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ 20221108 icmb public lecture pierre wunsch – national bank of belgium page 9 of 11 avoid a de - anchoring of inflation expectations. but it is quite clear to me that we, as policymakers, have lost our moorings. not only have our models performed

germs, war and central banks public lecture by pierre wunsch governor, national bank of belgium international center for monetary and banking studies geneva, 8 november 2022 as prepared for delivery introduction good evening. i would first like to thank professor panizza for kindly inviting me to be part of the prestigious icmb public lecture series. i am truly honoured. geneva is a unique place to speak about international finance, central banking and, given the circumstances, germs and war. after all, geneva is home to both the who and the un. with inflation at record - high levels, it ’ s important to understand how we got here and to take action to bring inflation back to the target rate. what a difference a year makes! in the summer of 2021, inflation narratives were simple and reassuring. as the pandemic abated, the lifting of restrictions unleashed a consumption boom. this was too much for still fragile supply chains and stressed logistics networks to handle. and when supply cannot keep pace with demand, our econ 101 textbooks say that prices must rise. this is even more true for the energy and commodities markets. inflation was back, and everyone applauded, for two reasons. first, the spectre of deflation was finally dissipating and, second, since the supply disruptions were deemed temporary in nature, it was expected that inflation would automatically fall. as central banks target inflation over a medium - term horizon, we felt confident we could safely “ see through ” these fluctuations. like textbooks, the models told us that inflation would automatically fall. but post - pandemic inflation turned out to be more persistent than initially thought, much more persistent. an alternative narrative has thus developed, according to which the current surge in inflation is attributable, at least in part, to more structural reasons, including the fact that the inflation rate has already risen considerably. in other words, inflation can feed on itself. in this narrative, the persistence of inflation reflects a regime shift which our workhorse models are, by design, ill - equipped to detect. as conflicting inflation narratives are now circulating, there is a tangible risk of a de - anchoring of inflation expectations. and if credibility is the name of the game, we know that policy rates may have to be raised more decisively than what any model in our toolkit would suggest. tonight, i will look at the possible drivers of inflation through the lens of these two narratives and the consequences for monetary