The European Central Bank has long distinguished itself in the ranks of the world’s central banks for its hawkish inclination. The central bank’s mandate for price stability – enshrined in an international treaty – has been interpreted as calling for inflation to remain close to but below 2%. The result of the Review of the ECB’s strategy, the first since 2003, is a modest but welcome update, helping not only to make the institution more conventional, but also to make its objectives much clearer.
The publication of the journal represents the next step in the break with the conservative monetary policy of the Bundesbank, the German central bank, which has been brought into the institution. The ECB will now have a symmetrical inflation target; inflation below or above 2% will be “just as undesirable”, in the words of President Christine Lagarde. In addition, the central bank will tolerate a transitional “overshoot” period if a prolonged period of near zero interest rates threatens the central bank’s credibility in meeting its inflation target.
In addition to having the merit of being clearer, the new target abandons the hawkish bias of the central bank. It’s logic. The ECB has consistently exceeded its inflation target since the 2008 financial crisis. Indeed, the euro area has often flirted with deflation, an indicator of the extent of excess unemployment and insufficient investment in the economy. single currency area. A more aggressive approach – the central bank was one of the last major institutions to adopt quantitative easing – could have led to a stronger and more robust recovery. On Thursday, Lagarde said that new unconventional tools such as QE will continue to be part of the ECB’s arsenal.
The change is less drastic than expected, however, and certainly does not represent a revised approach to monetary policy. Unlike the Federal Reserve, the ECB will not target “average inflation”, allowing prices to rise faster to offset past deficits. The change to include housing in its chosen inflation measure is limited to the âcost of owner-occupied housingâ – which typically changes only slightly from year to year – rather than the actual price of housing. A âclimate action planâ was no more extreme than verifying that the companies from which it purchases bonds were acting in accordance with the objectives of the Paris climate agreements.
Perhaps this is the price of consensus. The review was completed two months faster than expected, likely indicating the absence of strong disagreements within the Governing Council which includes the heads of national central banks in the euro area. It may also be a testament to Lagarde’s political skills – his predecessor Mario Draghi was often more explicitly provocative towards representatives of the more hawkish member states.
Nonetheless, the policy of a more accommodating framework is likely to be as difficult as the economy. A more active ECB relied on support from the German government: even when Draghi clashed with former German finance minister Wolfgang SchÃ¤uble, the Bundesbank and members of the German parliament during the eurozone crisis, he was able to count on the support of Chancellor Angela Merkel. The next Chancellor is unlikely to have her status or dominance over European politics, but must, in the same way, defend the institution’s independence.
Overall, the package is a late step on the ECB’s path to becoming a more normal central bank rather than a âGreat Bundesbankâ. The changes to its target are modest and reasonable. However, they are not a substitute for meaningful action. The ECB now has a better target to aim for; whether he will be able to hit him is another matter.