The meeting was a particularly important one, as ECON Chair Irene Tinagli (S&D, it) stated in her introduction, as it was the first get-together with Lagarde since the ECB had adopted its radical ‘Strategy Review’ in July, having finally updated its working methods for the first time in 17 years.
As MEPs had requested to focus on the current rise in inflation - is it temporary, or possibly a more permanent trend? - and on the financial stability outlook post-pandemic, it was in these contexts that the review of the ECB's monetary policy strategy was discussed.
One of the strategy’s central innovations is a reformed approach to fulfilling the ECB’s number one mandate, price stability.
Lagarde quoted the ECB’s press release on this - more than once, as it contained the answers to several MEPs’ questions: “price stability is best maintained by aiming for a two percent inflation target over the medium term. This target is symmetric, meaning negative and positive deviations of inflation from the target are equally undesirable.”
When Jonás Fernández, (S&D, ES) asked about the “arithmetic of this symmetry”, Lagarde pointed to the equally new forward guidance provisions on monetary policy with their three conditions to determine a decision on interest rates.
These three conditions consist of an inflation rate analysis at certain points and over the entire duration of the ECB’s projection horizon, generally three years.
“We want to make sure there is realised progress in underlying inflation which is sufficiently advanced to be stabilising inflation over the medium term... we’re not in the business of average inflation targeting” European Central Bank (ECB) President Christine Lagarde
“We want to make sure there is realised progress in underlying inflation which is sufficiently advanced to be stabilising inflation over the medium term”, said Lagarde quoting the ECB governors’ statement, adding “we’re not in the business of average inflation targeting”.
The EPP’ Group’s Ludek Niedermeyer – a former Vice‑Governor of the Czech National Bank - reminded the room that, even if the ECB had modernised its approach, circumstances had changed to an extent that made a central bank’s traditional role more difficult.
“I believe that these days, there is a limited ability for monetary policy to guide inflation closer to the target at reasonable cost”, Niedermeyer remarked.
Lagarde responded by referring to the less traditional approaches adopted by the ECB in the last decade, saying, “We have a toolbox, but there is a ‘pecking order’ of tools. Interest rates are primary in normal circumstances, but, as last ten years or so have shown, in itself not sufficient” pointing to “purchase programmes of all sorts”, forward guidance, and targeted longer-term refinancing operations (TLTROs).
Most recently, she said, Pandemic Emergency Purchases (PEP) had been effective not only in securing favourable lending conditions necessary for recovery but had also helped “improve the inflationary outlook by one to two percentage points”.
But at this moment in time, it is the significant price rises in commodities, most notably energy related ones, that occupy most minds.
However, the ECB, chief said she remained optimistic. In the central bank’s view, there are three key forces for inflation - the volatility of energy markets, base effects like VAT normalisation in Germany after the pandemic waiver, and supply bottlenecks due to the high demand of an economy starting up again.
“We do believe that these factors are largely temporary”, Lagarde stated, adding that the ECB would keep a close eye, reviewing the situation again every three months.
Former European Commissioner for Regional Policy, Danuta Hübner (EPP, PL) suggested that, under the circumstances of an economy coming out of a state of suspension, some inflation might even be helpful.
“When the economy is operating close to the lower bound on nominal interest rates, it requires especially forceful or persistent monetary policy action to avoid negative deviations from the inflation target becoming entrenched. This may also imply a transitory period in which inflation is moderately above target" European Central Bank (ECB) President Christine Lagarde
The ECB chief agreed cautiously: “We are not aiming at excessive inflation” but, again quoting the ECB press release to avoid any misunderstandings, “when the economy is operating close to the lower bound on nominal interest rates, it requires especially forceful or persistent monetary policy action to avoid negative deviations from the inflation target becoming entrenched. This may also imply a transitory period in which inflation is moderately above target.”
The ECB’s newer role beyond guaranteeing price stability and towards financial stability is not undisputed, and on the specifics on financial market risks, Lagarde referred the ECON Committee to the dedicated new authorities like the European Banking Authority (EBA) and the European Securities and Markets Authority and European Banking Authority (ESMA).
But she did insist that the ECB had a role to play as well, as “there cannot be price stability if there is no financial stability and vice versa”.
Asked about her views regarding some actors in the banking sector attempting to renegotiate the global Basel III framework - due to come into force after many delays in January next year - for fear of it resulting in competitive disadvantages for European banks, Lagarde did not mince her words: “Basel II has been discussed amongst all participants for many years. And, clearly, the one-year additional time frame that was allowed was fully justified given the COVID circumstances.”
“But to try to yet again extend and qualify, or vary, terms that haven been negotiated over time, that have been agreed, laboriously but eventually, would not be a factor contributing to stability and confidence.”
She also said that the letter sent jointly by the ECB and the EBA to the Commission at the beginning of the month asking for implementation of Basel III was fully justified: “There’s a point in time where action is necessary, and implementation is key”.