–Rigid Product & Labor Markets Can Undermine Anchoring of Expectations

BUDAPEST (MNI) – Sustainable fiscal policies are needed to help a
central bank guarantee price stability, European Central Bank President
Mario Draghi said Friday.

Speaking at a conference at the Hungarian National Bank, Draghi
said that the litmus test of a bank’s ability to ensure stable prices
was its credibility as reflected in inflation expectations, which can be
undermined if product and labor markets are rigid.

He affirmed that the euro has a good track record of low inflation
and cautioned future euro area members that adopting the common currency
should mean sharing sovereignty to a greater extent than a decade ago.

It is “crucial that the achievement of price stability is supported
by sound fiscal positions,” Draghi said. “Irresponsible fiscal policies
can jeopardise credibility, as higher inflation becomes desirable to
reduce the real value of government debt.”

He continued: “Fiscal policies should be sustainable and oriented
to the medium term. They should further aim at mitigating undesirable
trend growth differentials through ‘high quality’ expenditure and tax
policies.”

The best contribution monetary policy can make to growth is “the
delivery of price stability,” Draghi said, since this “creates a
predictable environment that fosters the efficient adjustment of
relative prices and bolsters investor and consumer confidence. It also
protects the purchasing power of the most vulnerable members of the
population.”

The euro “has a very good track record of low inflation,” the ECB
chief asserted.

In the long run, a central bank’s success in maintaining price
stability hinges on its credibility, he argued. “Credibility anchors
inflation expectations in line with the definition of price stability
adopted by the central bank. Well-anchored inflation expectations in
turn align the choices relevant for wage and price setting.”

When product and job markets are rigid, this can cause inflation
and inflation expectations to stay elevated even when the relevant
central bank is committed to achieving stable prices, he said.

“Both governments and social partners share responsibility for
ensuring that wage determination takes sufficient account of labour
market conditions and does not jeopardise competitiveness and
employment,” he said.

While noting “shortcomings in the process of convergence across
euro area members” that have led to current difficulties, Draghi said he
was “pleased to report that progress in addressing those shortcomings is
being made.”

He continued: “External imbalances and fiscal imbalances are
starting to be unwound. Efforts to regain price and non-price
competitiveness are bearing early fruit. Deleveraging is generally
proceeding in an orderly way, even though credit flows to the real
economy seem to be negatively affected in parts of the euro area. Debt
is being reduced in some countries, while others are devising strategies
to make debt reduction sustainable over time. And financial sector
weaknesses are being addressed along with their links to sovereign
risk.”

However, Draghi added, “much still needs to be done.”

Turning to the institutional framework of Europe, Draghi said that
to maximize the benefits of the euro requires “not only a strong ECB; it
also requires additional strong common institutions.”

He put potential new Eurozone member states on notice that “joining
the euro area in the future should imply greater sharing of sovereignty
and a deeper European accountability than it did ten years ago.”

–Frankfurt bureau tel: +49-69-720-142. Email: dbarwick@mni-news.com

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