Welcome address by Bank of Greece Governor Yannis Stournaras at the 3rd ECB Simulation Conference by Get Involved
13/12/2019 - Speeches
It is with great pleasure that I welcome you to the opening of the third annual simulation conference of the European Central Bank. The initiative for organising the simulation belongs to the group of students Get Involved. I consider it to be an excellent initiative.
Your participation in this conference will give you the opportunity to understand the structure and functioning of the European Central Bank, as well as the role of central bankers, and to try to make decisions about monetary policy.
As you already know, the Bank of Greece is a member of the Eurosystem, together with 18 other national central banks. It participates on an equal footing with the other central banks and the European Central Bank in the formulation of the single monetary policy for the euro area, geared towards the primary objective of price stability, defined as annual inflation of below, but close to, 2% on average over the medium term. The Eurosystem aims therefore to preserve the purchasing power of the euro and to contribute decisively to sustainable economic growth and job creation. At the same time, as a supervisory authority, it is responsible for ensuring the smooth functioning of the financial system.
So, what are the tasks of the Governor of a Eurosystem national central bank? The Governor participates in the Governing Council of the ECB with one vote, under a rotation scheme, in a personal and independent capacity. The Governing Council is the main decision-making body for matters relating to the euro area monetary policy stance and implementation framework.
More specifically, the central bank aims to influence the cost and availability of money in an economy through monetary policy decisions. Any change in these terms sets in motion a mechanism, the monetary policy transmission mechanism. In this way, it affects developments in economic activity and prices.
In the first decade of the monetary union, when normal conditions prevailed, the transmission of monetary policy was very effective. In the second decade, the Eurosystem faced unprecedented challenges amid significant turmoil observed both in the external environment and domestically, which greatly complicated the Governing Council’s work in mitigating the impact on the euro area economy.
Let us examine in more detail the differences between these two decades.
In the first period from 1999 until 2007, the macroeconomic environment of the euro area was characterised by stable economic developments, with slight, mostly upwards, movements in inflation. Whenever the Governing Council, based on its economic and monetary analysis, perceived a risk of inflation rising above its target in the medium term, it raised the ECB’s key interest rates (i.e. monetary policy tightening). Conversely, the Governing Council lowered the ECB’s key interest rates (i.e. monetary policy accommodation) whenever it perceived a risk of inflation falling below target. Influencing funding costs for commercial banks affects, in turn, money market interest rates and bank lending and deposit rates for individuals and corporations and, eventually, the investment and consumption decisions of economic agents.
As a result, market expectations about future inflation remained contained, inflationary pressures were kept at bay and, despite significant upward price shocks, especially in energy prices, inflation averaged almost 2.1% throughout this first period. Thus, during that time, the ECB’s conventional monetary policy through the interest rate tool played a decisive role in keeping inflation close to target.
The second period, from 2008 onwards, saw exceptional changes in the macroeconomic environment of the euro area. Initially, global financial markets experienced major turmoil and disruptions, and banks, including in the euro area, faced severe liquidity constraints and high uncertainty. Subsequently, marked fiscal imbalances in certain euro area countries, including Greece, gave rise to market concerns about the sustainability of these countries’ public debt, triggering high volatility in the yields of their government securities. More recently, there has been a protracted decline in prices, leading to persistent very low, even negative, levels of actual and expected inflation, with adverse effects on the euro area economy.
Given that the inflation target is symmetric, the downward deviations of inflation from the ECB’s target had to be effectively addressed. Thus, the Governing Council made drastic cuts in the ECB’s key interest rates, bringing the interest rate on the main refinancing operations to zero and setting a negative interest rate on funds deposited by commercial banks with the central bank (deposit facility). However, the scope for further reducing interest rates – which are close to their effective lower bound – was limited, as the monetary policy transmission mechanism was not working efficiently.
In order to achieve price stability and restore the smooth functioning of financial markets, the Governing Council adopted a number of additional non-standard monetary policy measures, which were designed to complement the conventional monetary policy tools. This set of measures has succeeded in reinforcing the conventional interest rate policy, by providing sufficient monetary accommodation. As a result, the downward trend of prices was reversed and average inflation stood at almost 1.4% during the second period.
More specifically, through the conduct of longer-term refinancing operations, in particular the targeted longer-term refinancing operations (TLTROs), banks can obtain ample liquidity at particularly favourable terms, normal conditions are restored in financial markets and bank lending to firms and individuals is encouraged. In addition, the quantitative easing provided by the expanded asset purchase programme (APP) also influences medium-to longer-term interest rates. Declines in these interest rates lower the cost of bank borrowing for consumers and firms, thereby boosting private sector spending. This, in turn, supports investment and consumption, bolstering economic growth and reducing downward deviations of inflation from its target. The contribution of forward guidance is equally important to ensure that monetary policy will remain accommodative and that key interest rates will be kept at their current, or even lower, levels for several months, as this helps to reduce uncertainty about future interest rates and to anchor market inflation expectations.
The monetary policy of the Eurosystem has thus successfully contributed to supporting economic activity and maintaining price stability from the creation of the monetary union until today.
The Governing Council will continue to deal effectively with any challenges that may arise in future. Monetary policy instruments remain available and there is adequate room for adjusting or enhancing them, if warranted.
However, our recent experiences and the new challenges we are confronted with made us wonder whether there is a need to change the Eurosystem’s monetary policy strategy in order to encompass the lessons learned over the past few years. The framework of the monetary policy strategy includes, among other things, the quantitative definition of price stability and the method of analysing risks to price stability. The last review of the Eurosystem’s monetary policy strategy was carried out in 2003. Recently, at the Governing Council of the European Central Bank we have decided to launch a debate on this issue, which could encompass, apart from monetary policy-related matters, issues such as the incorporation of risks arising from climate change, the impact of monetary policy on income and wealth distribution, etc. This debate will start now and will continue until almost the end of 2020. For more details, you can refer to yesterday's press conference of the President of the Governing Council, Ms Christine Lagarde. Other major central banks, such as the US Federal Reserve System and the Bank of Canada, have already started reviewing their strategies.
In closing, I would like to congratulate all those who have made this conference possible. In the days to come, it is your turn to test your abilities in monetary decision-making and to make good use of the knowledge you will acquire.