ECB Insight: Villeroy Dons the Mantle of ECB Spokesperson Again

13 October 2021

By David Barwick – FRANKFURT (Econostream) – European Central Bank Governing Council member François Villeroy de Galhau, freshly nominated to a second term at the helm of Banque de France, delivered a speech on Tuesday in which he staked out a broad array of bold positions:

  1. ‘The Governing Council is likely to decide on the future of its monetary policy instruments in December, giving us ample time to monitor economic and financial data’, Villeroy said.


That ‘likely’ is somewhat interesting. December has been billed as the Council meeting to watch for some time, yet ECB President Christine Lagarde two weeks ago told European Parliament that ‘these matters will be reviewed in due course in probably late ‘21, early ‘22’, and Villeroy later on in yesterday’s intervention spoke merely of ‘reflect[ion]’ on a ‘possible adjustment’ of the forward guidance with respect to the asset purchase programme (APP).


So, does it all come down to December or not? The uncomfortable reality is that the ECB may face a situation two months hence that – despite updated staff forecasts and a first guess at what 2024 holds – it doesn’t really consider all that less uncertain than the present, which it clearly regards as highly uncertain.


However, the bottom line for Econostream is that barring some major unforeseen development, it is highly unlikely that the ECB would postpone major decisions beyond December. Although uncertainty is arguably higher now than on July 22, when the Governing Council updated its forward guidance with respect to interest rates, the pandemic is clearly being overcome and the overall situation is generally better than for much of the last year and a half.


  1. ‘If the Governing Council judges that "the Covid crisis phase is over", then net purchases under the PEPP will end in March 2022’, Villeroy said. ‘As things stand, this is likely to be the case.’


‘Likely’ is about as strongly as he could have put it, given the prevailing uncertainty, a reluctance to pre-commit unnecessarily and the fact that this is coming from a Council member who is not on the Executive Board member and thus does not (officially) speak for the ECB.


But as Econostream has noted before, Villeroy is the Governing Council member who most often seems to speak as though he were in fact speaking for the ECB. We doubt he would do so time and again if the tendency rubbed his countrywoman Lagarde the wrong way, and a reasonable assumption is that such important pronouncements may be coordinated with her.


In any event, Villeroy’s comment removes most of the residual doubt for us as to whether the PEPP will end on schedule. Not all; the ECB might still decide to extend the PEPP at lower purchase volumes as a way of avoiding cliff effects, if for some reason – the flexibility issue, perhaps – it does not prefer to simply boost the APP instead.


  1. One of the ‘main lessons from the success of the PEPP’ is that ‘the flexibility of the PEPP across jurisdictions and asset classes is a powerful and innovative way to achieve the right monetary policy transmission’, he said. As there can always be bouts of turmoil, ‘it might be useful to consider whether - and if so how - to keep even some of the PEPP flexibility elements in our "virtual" toolbox.’


Villeroy has been arguing for some time in favour of keeping the PEPP’s flexibility, saying for example last May that ‘[b]ased on our experience with PEPP, we could add additional allocation and/or volume flexibilities’ to the APP.


Econostream continues to regard dubiously prospects for a full-scale transfer of PEPP flexibility to the APP. It is precisely the flexibility across jurisdictions, allowing the ECB to deviate from the capital key, that would arouse the stiffest opposition, to say nothing of likely legal challenges.


So, while Villeroy yesterday argued that if PEPP flexibilities were retained, ‘[t]heir mere existence and the theoretical possibility of their use would mean that we would probably not need to actually use them’, that won’t assuage those opposed to retaining them in the first place.


It should be noted that preserving flexibility across asset classes and especially across time would be significantly less problematic than keeping flexibility across jurisdictions, but also not as effective in dealing with the potential turmoil Villeroy invoked. Which explains why he also argued that making the APP more flexible would be even more useful than simply increasing APP purchase volumes.


  1. Referring to the ECB’s targeted longer-term refinancing operations (TLTROs), Villeroy said he was ‘in favour of maintaining this financing instrument in the future, in one form or another, as a safety net, also in order to avoid possible cliff effects related to future repayments.’


Econostream thinks this stands a good chance of happening. True, some members of the Council may minimise these cliff effects on the grounds that, as one person close to the discussion told Econostream, ‘the banks can start paying it back whenever they feel like it.’


But the banks derive considerable income via the TLTROs and would need to be obliged to return to market financing, and that in a low interest rate environment in which the TLTROs have often been cited by monetary policymakers as a reason why ECB policies aren’t all that pernicious for the banking sector after all.


While the cliff effects associated with an end to the TLTROs may be less significant than those related to asset purchases, they are not negligeable.


The TLTROs however raise notably fewer ideological hackles and maintaining them on the somewhat less favourable terms Villeroy called for would probably incite relatively little opposition.


  1. Noting the ECB’s 2023 HICP forecast of 1.5%, Villeroy admitted that it ‘may be at risk of being revised upwards by a few decimal points, but what matters for monetary policy is the difference between actual inflation and our 2% target.’


Many analysts had expected the 2023 HICP projection to be hiked from 1.4% to 1.6%, if not 1.7%. It is clear from conversations Econostream has had during the last month that the 1.5% outcome was greeted with at least some raised eyebrows on the Governing Council.


For example, Central Bank of Malta Governor Edward Scicluna earlier this month politely explained in an interview that ‘the staff convinced us that [currently elevated inflation] was temporary due to food, energy, supply bottlenecks and so on not being a permanent source of price pressures.’ Others were less diplomatic about expressing their surprise.


Villeroy did not say when such a significant upward revision might occur or when he might think it appropriate, but ‘a few decimal points’ would clearly be a meaningful step in the direction of price stability.


This is a surprising comment that we would speculate reflects a certain frustration at the ECB’s determination to depict the inflation outlook as continuing to warrant a higher level of monetary policy support than the reality justifies.