ECB versus the people: don’t shoot the pianist

Economic opinion

Criticizing the ECB is fashionable these day, inside and outside the ECB. Outgoing ECB President Mario Draghi in particular is under attack. From a fundamental point of view, the criticism is not surprising. Economists, including at KBC Economics, have been pointing out the negative side effects and risks that a policy of negative deposit rates, quantitative easing and massive liquidity provision entail for years. But the criticism has always been nuanced, because exceptional circumstances in the past also justified exceptional measures. At the moment, fundamental criticism is centred around the short-term focus of monetary policy while possible negative effects in the longer term are increasingly neglected. So while some criticism is justifiable, the massive wave of criticism more recently is not. Much of this criticism is unsubstantiated, populist and, above all, blind to the positive effects of the policy. Critics show too little understanding of the structurally difficult circumstances in which a single monetary policy in the euro area is achieved. In this sense, the ECB as an institution and Mario Draghi as its President are players in the game. One takeaway from recent events is that it is time to think about the role and functioning of the ECB in the future. There is a need for a better balance between the pros and cons of policy decisions and a fundamental discussion about the ECB's objective(s). Furthermore, institutional reforms are also needed. More transparency in the decision-making process, a clear demarcation of responsibilities within the ECB and a more coherent European decision-making framework for monetary and budgetary policy in the euro area could avoid many discussions and problems in the future. This is the only way in which the ECB can uphold its strong and vital credibility.

Like it or not

Germany has never been a fan of the ECB's unconventional monetary policy. The extreme monetary stimulus is causing many in Germany to fear that the ECB's primary objective of price stability within the euro area will be jeopardised. Moreover, the current policy is dangerously close to a situation of monetary financing of public deficits, a doomsday image for many in Europe, especially in the north of our continent. After many lost battles in German courts, Germany was finally forced to accept the situation. Supported by more international criticism - such as that by Klaas Knot, governor of the Dutch central bank and member of the Governing Council of the ECB - this German condemnation has escalated again recently.

Nevertheless, it remains an indisputable fact that the ECB achieved an important victory over the financial markets during the European debt crisis through strong communication and effective policies. Draghi convinced the markets that the ECB would save the European Monetary Union at all costs. The current massive and blind criticism ignores this important achievement. The rescue by the ECB came at a time when there were not enough alternative mechanisms within the European Union to keep the euro area together, for example through a common fiscal policy or even through financial solidarity.

In the evaluation of the ECB's policy, therefore, a clear distinction must always be made between the decisions taken during and after the European debt crisis and today's decisions. The recent ECB decision to further reduce deposit rates to -0.50% and to restart a programme of quantitative easing (additional bond purchases for 20 billion euros per month) is both economically defendable and questionable.

The main defence is the recent decline in inflation and inflation expectations in the eurozone, against the backdrop of an economic slowdown. The ECB is just using a wider range of monetary instruments to combat this low inflation. The use itself is difficult to question, but the impact is not. However, caution is needed in any criticism, because we can only know the actual impact in the future. Even the evaluation of the past impact of unconventional monetary policy during and after the European debt crisis does not always point in one clear direction and it certainly also contains positive elements. It is therefore intellectually unfair to attack the ECB today because of the possible ineffectiveness of monetary policy in the future. Such criticism is a sign of ignorance.

Nevertheless, the current policy of the ECB is debatable, mostly because of its side effects. Research indicates more and more that the wealth of savers and pensioners is being adversely affected. Financial institutions have to deal with a major challenge. Weak financial institutions, which are heavily dependent on the traditional, intermediate banking model, will undoubtedly face problems in the near future. Most importantly, ECB policies are distorting the normal functioning of financial markets. Risks are no longer correctly priced and, as these unconventional policies become more conventional, this poses a substantial threat to financial and macroeconomic stability. In the short term, the unconventional policies may provide breathing space - not least for highly indebted European economies - but in the longer term, they can cause major economic damage.

Looking to the future

Policy actions require choices. As a politically independent institution, the ECB has little or no responsibility for its choices. The impact of current ECB policy choices far exceeds the ECB's mandate. The political independence of each central bank is and will remain necessary. Otherwise, especially in the current climate, the ECB risks becoming the pawn of insufficiently informed critics. Nevertheless, a number of improvements to the current functioning of the ECB should be considered.
In terms of content, first of all there is the discussion about the current inflation target. At a certain point in time, the end no longer justifies the means. We have now reached that point. We also need to gain more knowledge about the impact and especially the side effects of unconventional policy. The ECB itself is doing research in both areas. It is important that independent voices are heard in this debate.

On an institutional level, there is much room for improvement. For one, the ECB is far less transparent in its decision-making process than, for example, the Federal Reserve. This leads to suspicion. To avoid this, the ECB could communicate much more openly to the outside world about its internal discussions. Rather than undermining credibility that would instead underpin the ultimate decision more strongly. Everyone understands that the economic differences between the Member States of the euro area lead to discussions at ECB meetings. It is important to indicate how decisions are made through argumentation. Another improvement could be limits to the extension of the ECB's arsenal of weapons to combat inflation, as otherwise new side effects could occur all the time. In addition, it should be possible to hold the ECB accountable if its decisions affect other policy areas or social aspects, while still maintaining its political independence when it comes to setting monetary policy. Finally, the past few years have shown that there is a need for more structural coherence between monetary and fiscal policy. The ECB's repeated calls for reforms and fiscal stimulus, rather than monetary policy, to boost European economic growth show that there is too little consultation between the European institutions.

In conclusion, it is clear that criticising the ECB is justified, but condemning it entirely is a step too far. It is after all just the pianist.


All opinions expressed in this publication represent the personal opinions of the author(s) at the date stated therein and are subject to change without notice. KBC Groep NV makes no warranties as to the extent to which the scenarios, risks and forecasts proposed reflect market expectations, nor as to the extent to which they will actually materialise. All forecasts are indicative. The data in this publication are general and purely informative. The information cannot be considered as an offer to sell or buy financial instruments. Nor can it be considered as investment advice, investment recommendation or "investment research" within the meaning of the law and regulations on the markets in financial instruments. Save the express prior and written consent of KBC Groep NV, any transfer, sale, distribution or reproduction of the information, publication and data is prohibited, regardless of form or means. KBC Groep NV cannot be held liable for the accuracy or completeness of the information or for the direct or indirect damage that would result from the use of this document.

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