ECB Insight: Nagel Confirms Expectations by Advocating Prompt Policy Normalisation

9 February 2022

By David Barwick – FRANKFURT (Econostream) – If there were any lingering doubts as to where Joachim Nagel, the newest member of the European Central Bank’s Governing Council, stood on the issues of the day, he effectively did away with them on Wednesday by positioning himself clearly in favour of normalising monetary policy sooner rather than later.

In an interview with German weekly Die Zeit, Nagel, who a month ago took over the helm of the German Bundesbank, set a high bar for anything but pushing for the withdrawal of monetary accommodation.

‘If the picture does not change by March, I will advocate normalising monetary policy’, he said. ‘The first step is to end net bond purchases in the course of 2022. Then interest rates could rise this year.’

What he meant by a change in the picture he made clear elsewhere in the interview: ‘We will look at the data, in March the new projections for growth and inflation will come. And on that basis we will decide. If the inflation picture and, above all, the outlook for the future do not brighten considerably by then, we will have to realign monetary policy.’

Nothing about what Nagel said in the extensive interview suggested that he assigned much probability to a changed picture anytime soon, let alone a considerably brighter one in the mere month remaining to the Governing Council’s March 10 monetary policy meeting.

On the contrary, he warned that average German inflation this year would probably be ‘well over 4%’ and decline markedly from current highs only in the second half. He fretted about the rising danger of second-round effects and the possibility that expectations could disanchor. And he was clearly concerned about the risk that the ECB would fall behind the curve.

‘I see very clearly the risks we run if we wait too long before normalising monetary policy’, he said. ‘In my estimation, the economic costs are significantly higher if we act too late than if we act early.’

‘If we wait too long and then have to act more massively, the market fluctuations can be more pronounced’, he added.

The general economic situation is ‘encouraging’, he said, citing easing pandemic containment restrictions and positive labour market developments. ‘That is why monetary policy can become less expansionary.’

Nagel was uninterested in tinkering with standard policy sequencing. ‘The bond purchases are associated with greater risks and side effects’, he said. ‘That is why they were taken late. And that is why they should be stopped first.’

On the inflationary impact of the green transition, he came down on the side of those who expect this to wind up contributing to higher rates of price growth. ‘[I]f you put the economy into an ambitious transformation process, this can lead to permanently higher prices’, he said. ‘In the past, we often assumed that energy prices would go down again after a high because it was only a short-term shortage that could be eliminated. Now it could be different because of the green transformation of the energy supply. We have to be all the more vigilant.’

While Nagel’s transparency about his assessment facilitates a judgment as to where monetary policy is headed when, his inaugural address one month ago had already suggested that he would, as befits the Bundesbank president, be aligned with the most hawkish faction of the Governing Council.

As such, and given that his predecessor, Jens Weidmann, would have endorsed the views expressed by Nagel today, not much has changed. But then, not much was supposed to change; the sentiment most closely associated with Nagel’s appointment was always ‘continuity’. Today, he delivered.