ECB versus the people: don’t shoot the pianist
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
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