ECB’s Nagel: The Closer We Get to Neutral, the More Appropriate Gradualism Becomes

12 February 2025

By Marta Vilar – LONDON (Econostream) – European Central Bank Governing Council member Joachim Nagel said on Wednesday that gradualism in setting monetary policy was increasingly called for as the ECB’s easing cycle neared the neutral rate.

In a speech at the London School of Economics and Political Science, Nagel, who heads the Deutsche Bundesbank, said that ‘[t]he closer we get to the neutral rate, the more appropriate it becomes to take a gradual approach.’

The natural interest rate was a sign that policy moves should be more cautious in order to prevent making mistakes, he said.

‘[I]t would be risky to base decisions mainly on r* estimates’, he said. ‘Much more is needed to assess the current monetary policy stance and the optimal policy path for the near future.’

As well as r*, the ECB staff used a wide range of financial, real economic and other measures to achieve the ‘fullest picture possible’, he said.

‘For instance, r* is included in model-based optimal policy projections that we use in the decision-making process’, he said.

The data-dependent, meeting-by-meeting approach had proved successful for the ECB and there was no need to speed things up, according to Nagel.

‘There is no reason to act hastily in the present uncertain environment’, he said. ‘The data will tell us where we need to go.’

Focussing only on the neutral rate to set monetary policy ‘could be like flying almost blind’, he said.

However, he argued that it could be considered ‘highly useful’ when combined with other tools.

Bundesbank staff estimated r* to be in a range of 1.8% to 2.5% using data up to the end of 2024, according to Nagel.

‘All in all, the results suggest that the range of r* estimates most likely increased by about one percentage point from their lows’, he said.

Among the reasons why neutral rate estimates were uncertain were factors related to how megatrends impact on r*, different methodologies and the effects of monetary policy itself, Nagel explained.

'Prolonged tight monetary policy, for example, may lower investment, innovation and productivity growth’, he said. ‘By contrast, persistent monetary easing could fuel financial imbalances and contribute to zombification.’

Nagel underscored the uncertainty under which the ECB would act in upcoming meetings, given the wide range of estimates for r*.

In the event of a further 25bp rate cut, ‘the policy rate would become neutral’ if neutral was at the upper part of the estimates, he said.

‘Things would be different if r-star were at the lower end of the estimates: Monetary policy would continue to be restrictive, even after several further rate cuts’, he said.

Selecting the middle point of the range ‘might not be a happy medium’, he said.

‘After several rate cuts, the neutral rate could already be near – or there may still be some way to go’, he said.