AMSTERDAM (MNI) – The European Central Bank’s current monetary
policy stance is “expansive” and the bank has very little margin for
additional accommodation, ECB Governing Council member Klaas Knot said
Thursday.
“Future monetary policy actions will depend above all on the
further course of the [Eurozone] debt crisis,” Knot wrote in the
introduction to the annual report of the Dutch National Bank, published
today. “What is clear is that current monetary policy is expansive and
that there is little room for further monetary easing.”
The ECB’s non-standard measures – including unlimited liquidity up
to maturities of three years, looser collateral rules and purchases of
sovereign and covered bank bonds — have “demonstrably eased the
tensions in the funding markets, but have not eliminated them,” the
president of the DNB noted. “This illustrates that these instruments are
merely a means of buying time. A sustainable solution demands that the
problems are tackled at source. Once that happens, the unconventional
policy must be gradually phased out.”
Speaking later at a press conference in which he presented the
annual report, Knot conceded, “I worry about amount of liquidity in
market.” Monetary officials must ensure that banks “use the money in the
right way,” he said. “The biggest risk of LTRO is that necessary reforms
are postponed. We should be very careful, reluctant with next tranche of
LTROs.”
Asked about price pressures in the Eurozone, he replied, “I repeat
the words of [ECB President Mario] Draghi: inflation is not the biggest
risk at the moment.”
Knot stressed his opposition to any large-scale government bond
purchases by the ECB, saying, “the solution to the debt crisis cannot be
provided by the ECB in the form of monetary financing of the government
deficits in the peripheral member states.”
Not only would such behavior by the central bank be illegal under
EU law, it would also undermine the very charter of the ECB, which is to
provide for price stability, he said. “If monetary policy were used to
finance government deficits in member states, it would become
subordinate to fiscal policy. This would fundamentally change the
character of monetary policy,” Knot argued.
He also said the ECB’s monetary policy cannot address divergences
among Eurozone countries in terms of prices and economic growth. Rather,
the ECB “needs to remain focused on achieving medium-term price
stability across the euro area as a whole,” he argued.
The DNB chief painted a bleak picture of the outlook for economic
activity both in the Eurozone and globally, noting that balance sheet
deleveraging by businesses, banks and households was depressing growth.
In addition, he noted that severe financial crises, like the one that
has gripped global markets for the past four years, usually yield only
slow and weak recoveries.
“A rapid return to pre-crisis growth rates is therefore not
realistic, all the more because population ageing is further undermining
potential growth,” Knot warned.
Echoing the ECB’s most recent staff forecasts, he said Europe “will
probably slide into recession again” this year. While the United States
is likely to avoid the same fate, it is “still seeing its weakest
economic recovery since the Second World War,” Knot lamented. Japan,
meanwhile, “continues to teeter on the edge of a liquidity trap.”
He noted that even emerging markets are not immune to the worldwide
slowdown. “Despite healthy macroeconomic fundamentals and impressive
growth rates in the wake of the credit crisis, these countries have been
unable to decouple their economic cycles from those of the more
developed countries,” he said.
He urged “countries such as China” to allow greater exchange rate
flexibility and liberalization of trade. “This would be in line with
these countries’ sharply increased share in the world economy and the
diminishing advantages available to them as they catch up economically
with the developed countries,” Knot wrote.
Looking closer to home, Knot strongly rebuffed the notion that a
weaker Eurozone country like Greece could withdraw from the currency
union without devastating consequences.
All Eurozone countries are committed to the euro, Knot asserted,
both because it symbolizes European integration and because the cost of
its disintegration would be “prohibitive.” Not only a full Eurozone
break-up, but even one country leaving the monetary union “would lead to
huge losses for banks, insurers, pension funds and the ECB itself, and
cast doubt on the irreversibility of the creation of the common
currency,” Knot predicted.
“At that point, the genie would be out of the bottle, and the costs
involved in convincing the markets that the euro would not fragment
further would be exceptionally high,” he said.
Knot lauded the progress that political leaders have made so far in
addressing the Eurozone crisis — including fiscal adjustments by many
deficit countries, agreements to tighten policy discipline, the creation
of European rescue funds, and plans for bank recapitalization. However,
these policies have been too slow in coming and have not yet convinced
markets, he suggested.
“Seen from this perspective, the policy efforts will need to be
continued for a considerable time yet: it will take several years before
the deficit countries are able to stand on their own feet and the
currency union is placed on a stable financial and economic footing,”
Knot wrote.
He urged political leaders to strengthen the EU-wide agreements
they have already drafted, including a new accord to limit macroeconomic
imbalances, and the so-called “fiscal compact,” which is designed to
tighten enforcement of EU fiscal rules and enshrine them in national
laws.
Spain already cast doubt on the compact earlier this month when,
two hours after signing it along with other EU leaders, Spanish Prime
Minister Mariano Rajoy announced Madrid was unilaterally renouncing the
2012 deficit target it had set in agreement with the European
Commission.
Knot said at some point in the “longer-term future,” common debt
instruments such as Eurobonds would be “a welcome development,” offering
expedited financial integration, easier liquidity conditions and greater
stability. “However, Eurobonds are only the final piece in the jigsaw of
budgetary discipline in the currency union,” Knot said. They cannot be
created before a durable EU-wide fiscal institutional structure is in
place and the debt ratios of all EU states are brought below 60% of GDP.
Addressing the ECB’s monetary policy philosophy, Knot suggested
that in the future it might take a more “leaning against the wind”
approach to avoid the formation of financial bubbles. This, he said,
would involve giving more emphasis to the ECB’s so-called “second
pillar” of monetary analysis. The result, Knot said, would “push forward
the relevant time horizon for monetary policy formulation and mean that
the policy will tend to counter financial developments.”
–Paris newsroom, +331-42-71-55-40; bwolfson@marketnews.com
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