TOKYO (MNI) – European Central Bank Governing Council member
Christian Noyer said on Monday that the ECB’s recent rate cut was to
counter growing downside risks, but he added that the central bank must
also watch for inflation in order to ensure longer-term price stability.

Noyer also told a financial forum here that Europe must stabilize
its bond markets while implementing fiscal consolidation.

He noted that the situation in Europe and the world has
significantly worsened over the past few weeks. “Market stresses have
intensified. Bond markets in the euro area are not functioning
normally.”

Economies in other regions are feeling the effects of increased
uncertainty, lower growth prospects and capital repatriation, he said.

“In these conditions, it is important to clarify the mechanism at
work and identify the underlying causes,” Noyer said.

Financial crises can be extremely violent but at the same time they
provide opportunities for reform and progress, he said.

“We have to recognize that the necessary degree of fiscal
adjustment is heavily dependent on the level of market confidence,” said
Noyer, who is also governor of Banque de France.

“Second, we should try and delink bank and sovereign risk. In the
future, this may call for more structural solutions, with deposit
insurance and crisis resolution mechanism firmly established at the euro
area level.”

As for the role of central banks, Noyer said, “Monetary policy
should certainly stick to its mandate and ensure price stability in the
medium run.

“In Europe, with financial conditions tighter as a result of the
explosion in sovereign spreads, increased uncertainty and loss of
confidence — as shown by the fall in most indicators — there are now
more downside risks to price stability.”

That prompted the ECB to lower its policy rates by 25 basis points
earlier this month, he explained.

Noyer said both markets and some governments seem to consider that
the ECB should take a more aggressive stance in buying public debt, but
he warned that the central bank must also watch for side effects of
unconventional monetary stimulus.

Purchases of significant amounts of government debt by central
banks have helped provide markets with an insurance, or even an
assurance, against a potential drying up of liquidity, he said.

“In all countries where significant amounts of debt have been
purchased by monetary authorities, long-term interest rates have been
kept at very low levels, respective of their fiscal situation. But this
equilibrium could be unstable in a different inflation environment,” he
said.

“While markets are currently rewarding those countries which
liquefy public debt, they seem to be aware of some inflation ‘tail
risks’ and are hedging against these risks through gold, whose prices
have reached historical highs.”

The euro area is paying a double price, one for its mistakes and
one for its virtues, said Noyer.

“The mistakes, for governments, was to allow the piling up of debt
through unsustainable fiscal policies over a decade, and then to create
ex nihilo a doubt as to their ability to pay those debts.

“And we are also paying the price for our virtue and our refusal to
liquefy our debt through massive monetization of our fiscal deficits.”

tokyo@marketnews.com
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