ECB’s Panetta: Need Very Favourable Financing Conditions Until Pandemic Well Over

26 April 2021

By David Barwick – FRANKFURT (Econostream) – European Central Bank Executive Board member Fabio Panetta on Monday said that uncertainty about the degree of the recovery’s dependency on policy support, along with its sluggish nature, argued for keeping financing conditions very favourable until the pandemic is well over.

In a speech at a joint BIS, BoE, ECB and IMF conference, a copy of which was made available by the ECB, Panetta said that ‘monetary and fiscal policies should work together to deliver a stronger and more inclusive recovery, reducing the risk of inflation undershooting our aim for a prolonged period’, he said. ‘This is the best way to avoid lasting scars.’

The recovery still requires policy support, which dependence conceals underlying economic conditions and thus how well the economy would fare under less accommodative policies, he said. ‘The recovery will need to be well advanced before we can get a clear picture of the underlying damage’, he said.

Moreover, the European recovery will likely be ‘slow and incomplete’ in any case, he said, returning to pre-pandemic output levels only in mid-2022. ‘This evidence suggests that we should avoid withdrawing policy support – either deliberately or by tolerating adverse spillovers – until the output gap is closed and we see inflation sustainably back at 2%’, he said.

Financing conditions would thus need to remain ‘very favourable’ until well past the pandemic, he said. ‘The need for very accommodative policy over a longer period should in any case be uncontroversial, given that inflation remains well below our aim in our projection horizon and, according to survey measures of inflation expectations, even beyond it’, he said.

While the effects of globalisation may constrain monetary policy in smaller economies, it cannot do so in larger ones such as the euro area, he said.

Rather, the policy response by a central bank like the ECB determines the impact of globalisation on inflation and financing conditions, he said. ‘If globalisation leads to below-target inflation, it is because we are tolerating that undershooting’, he said.

Although globalisation could theoretically hamper monetary policy’s ability to influence inflation even in Europe by depressing the natural rate of interest, demographics have probably been the driver of a lower natural rate, he said.

Similarly, while globalisation could increase exposure to financial spillovers and thus impose an exogenous level of financing conditions, in practice this is not insurmountable, he said, citing the ECB’s March decision to accelerate asset purchases so as to preserve favourable financing conditions.

‘So we do have policy autonomy in the euro area’, he said, calling for it to be used ‘to shelter the domestic recovery from adverse foreign spillovers.’