mario draghi : bank restructuring and the economic recovery speech by mr mario draghi, president of the european central bank, at the presentation ceremony of the schumpeter award, central bank of the republic of austria, vienna, 13 march 2014. * * * summary on accepting the schumpeter award in vienna, ecb president mario draghi said 2014 and 2015 were set to be a period of recovery after two years of stabilisation and a return of confidence in the euro area. but the recovery “ remains conditional on our pursuing the very policies that have brought about the return of confidence, ” including growth - friendly fiscal consolidation, structural reforms and a committed monetary policy. in his speech, mr draghi drew a parallel between the policies applied in the euro area with the ideas of economist joseph schumpeter, who spoke of “ creative destruction ” driving innovation and productivity growth. by cleaning up and repairing banks ’ balance sheets, the ecb ’ s comprehensive assessment helps create the necessary conditions for resources again to flow to the productive economy. “ by encouraging creative destruction in the banking sector, we can facilitate creative destruction in the wider economy and support the recovery. ” deleveraging in the financial system was necessary, since too much debt has been built up in the run up to the crisis, but the question is what form this deleveraging should take, and at what speed it should be allowed, or encouraged, to take place. what we want to achieve, mr draghi said, is a “ good ” form of bank deleveraging, where equity is built up, where deposits rise and where balance sheet reduction takes the form of swift asset clean - up, rather than a slow scaling back of the loan book while rolling over bad loans. the ecb ’ s monetary policy is helping this process. as the recovery proceeds and inflation gradually increases towards levels closer to 2 %, the ecb ’ s forward guidance, firmly reiterated by the governing council in its last meeting, creates a de facto loosening of policy stance, and real interest rates are set to fall over the projection horizon. at the same time, the real interest rate spread between the euro area and the rest of the world will probably fall, thus putting downward pressure on the exchange rate, everything else being equal. the strengthening of the effective euro exchange over the past one and a half years has certainly had a significant impact on our low rate of inflation, and, given current levels of inflation, is therefore becoming

conditions necessary for resources to flow once more to the firms that use them most productively. and in this sense, by encouraging creative destruction in the banking sector, we can facilitate creative destruction in the wider economy and support the recovery. deleveraging and the real economy let me begin by outlining the challenge facing policy - makers in repairing the banking sector. looking back, there is no doubt that the business models and liability structure of euro area banks had to evolve. before the crisis, numerous banks funded their activities with too much debt and not enough equity ; and that debt involved wholesale financing that was too high relative to deposits. this model was only able to develop because of the perception of an implicit state guarantee for bank debt – a perception that is perhaps the most pervasive component of the link between sovereign and bank risks. the deterioration of sovereign credit, on one side, and the clarification of the rules regarding bail - in of bank debt, on the other, have both contributed to putting an end to a funding model that was neither desirable nor sustainable. as a result, the euro area banking system has begun a secular process of restructuring and deleveraging. from a policy perspective, the question presented to us is not whether we can avoid this deleveraging. it is universally accepted that too much debt had been built up in the run up to the crisis, by governments, non - financial firms, households and banks, and that we now have to work through the effect of the subsequent debt overhang. the correct question, in my view, is what form this deleveraging should take, and at what speed it should be allowed, or encouraged, to take place. clearly, we do not want any excessively rapid deleveraging that involves disorderly fire sales of assets. this is why two years ago, in the context of a bank funding squeeze, the ecb implemented longer - term refinancing operations. borrowing from schumpeter ’ s terminology, it would have been “ destructive destruction ”. bis central bankers ’ speeches at the same time, we do not want any excessively prolonged deleveraging, where banks reduce their loan book by curtailing new lending, while hoping that the underperforming assets they hold recover in value. put bluntly, this would create “ zombie ” banks that do not lend, and the longer this persists, the longer credit conditions will interfere with the process of creative destruction described by schumpeter. the