By David Barwick – FRANKFURT (EconoStream) – European Central Bank Governing Council member Jens Weidmann said on Monday that he agreed with ECB President Christine Lagarde that there are no limits to monetary authorities’ commitment to the euro.

In a speech at the Frankfurt Finance Summit, Weidmann, who heads the Bundesbank, qualified his support, however, by emphasizing the importance of sticking to the limits of the ECB’s mandate.

‘I agree with Christine Lagarde when she says that “there are no limits to our commitment to the euro”’, he said. ‘It is precisely to uphold our unlimited commitment to the euro that we have to watch out for the limits of our mandate, and deliberate continuously about our means and ends.’

The economic fallout from the pandemic has presented authorities with ‘extraordinary challenges’ that justify extraordinary actions, he said, noting the tightening of financial conditions, the worsening of economic prospects and the ongoing risk from pro-cyclical financial amplification mechanisms.

‘As the financial crisis taught us in no uncertain terms, such a negative feedback loop could seriously impede price stability in the medium term’, he said. ‘Thus, monetary policy action is needed to avert this turn for the worse.’

Weidmann implied that his endorsement of policy action extended to the Governing Council’s most recent measures adjusting the pandemic emergency purchase programme (PEPP). Given the updated staff macroeconomic forecasts showing a deterioration of future inflation, ‘further monetary policy action was warranted to achieve price stability’, he said.

That the PEPP was designed with flexibility to help stabilise markets and thus protect policy transmission should not mean that the programme is ‘unbound’, he said. Although that flexibility means that the distribution of government bond purchases across the euro area can deviate from the key used to calculate national central banks’ respective share of the ECB’s capital, the capital key ‘provides a useful benchmark for PEPP holdings at the end of our net purchases’, he said.

Weidmann’s comment about ultimate consistency with the capital key followed a similar remark by ECB Vice President Luis de Guindos, who on Monday vowed that ‘in the end … [w]e will ensure convergence to the capital key’. Like de Guindos, Weidmann ruled out monetary financing and insisted that the ECB would return to exit mode once circumstances warranted it.

‘Policymakers must not assume that we would keep the financing costs of governments low forever or iron out any differences in sovereign risk premia’, he said. ‘…when the inflation outlook requires a normalisation of monetary policy, the Eurosystem needs to do what is necessary to safeguard price stability.’

Weidmann cautioned against a situation characterized by fiscal dominance, calling it ‘obvious … that the large-scale purchases of government bonds tighten the link between monetary policy and fiscal policy.’ The decoupling of financing costs from capital market financing conditions undermines the latter’s ability to force governments to be disciplined in incurring debt, he said. Hence, the ECB should be purchasing assets ‘only in exceptional situations.’

Turning to the German economy, Weidmann said that the trough had been reached in April but that the recovery was expected to be ‘painfully slow’, with the pre-pandemic level of activity reached only towards the end of 2022.