Europe and Japan: Monetary policies in the age of uncertainty (notes)

On 2 October, think tank Bruegel and Kobe University organized a conference on monetary policy in Brussels. The speakers compared the challenges faced by the European Central Bank (ECB) and the Bank of Japan (BoJ). This post is a reminder to myself based on my notes. I don’t cover the contributions of all participants. Don’t expect a story or a conclusion 🙂

Prof. Kosuke Aoki (University of Tokyo): Falling long term interest rates = capital gains on bonds held by banks. This stimulates banks to increase the supply of loans, including loans to riskier firms.
Studies don’t find relation between inflation and growth. The 2% inflation target of major central banks (Fed, ECB, BoJ) creates a de facto nominal foreign exchange (FX) rate target.

Prof. Benoît Mojon (Banque de France): Employment and loan volume in euro area have been growing for the past 4 years. Reforms in Germany had a large impact on the labor force participation rate of older workers. Uses regressions to identify causes of wage inflation.

Prof. Ester Faia (Goethe University): Central bank paradigm that they can use monetary policy to influence output gap. Problem: the Phillips curve is not robust. (Basically, low unemployment should result in high inflation).
Two possible explanations for this observation. (1) Slack has changed (i.e. economy seems at full capacity looking at unemployment figures, but in fact could absorb higher demand without significant inflation) (2) Inflation expectations have changed.
While most speakers focused on monetary explanations for inflation/low rates, prof. Faia pointed out the long term trends of globalization and automatization that put a damper on wage growth.
During the panel discussion afterwards, Faia mentions the effect of QE on inequality while it had a low effect on output.

Prof. Athanasios Orphanides (MIT): QE works by lowering long term yields, higher asset prices and lower FX rates, creating fiscal space (i.e. less tax revenue goes to interest on debt).
However, still a lot of uncertainty. What’s the multiplier of QE? Causes inaction by policymakers outside central banks.
Recommends tinkering: central banks should do QE quickly and recalibrate. Do more if necessary.
Considers BoJ’s QQE (quantitative and qualitative easing) as textbook example of just right policy.
On the Fed: decisive action paid off.
ECB was slow to act, still paid off for some member states. Notes that Germany and Italy have a better primary balance (fiscal deficit excluding interest payments on debt) than the USA and Japan.

Dr. Grégory Claeys (Bruegel): Asks if central banks should raise their inflation targets. There’s a secular decline in the neutral rate. According to the Taylor rule, central banks should cut rates to below 0%.
A higher inflation rate would be less controversial than QE, especially in Europe, where the ECB buys bonds of national governments. At the moment, central bankers cannot lower rates much below zero, as people will simply hold cash. With a higher inflation target (e.g. 4%), the ECB or BoJ have more space to lower rates in response to economic slowdown.
Notes that the central bank of Canada and the Bank of England have reviewed their inflation targets.

(I’ll discuss the proposals of prof. Miles Kimball and Eric Lonergan in a separate post.)

Tokiko Shimizu (Bank of Japan) noted that the Japanese hourly labor productivity growth was higher than in other rich countries in the period 2010-2016. Furthermore, fixed investment is rising in Japan. That’s interesting, as most market observers think of Japan as an aging society with structurally low growth.

Prof. Lex Hoogduin (University of Groningen): central bankers should be humble, economy is a complex system. Few data points to base monetary policy on. Politicians need to implement structural reforms. Objection Orphanides: central bankers with this attitude risk waiting too long. Hoogduin considers inflation targeting poor policy.

Prof. Martin Hellwig (Max Planck Institute) discussed the independence and governance of central banks. Independence of Bundesbank was imposed by Allies after wars.
Who benefits from monetary policy? Distributive effects, e.g. bankers bailed out. Not first time, Greenspan recapitalized banks by keeping short term interest rates low => profits from net interest income.
Political role of ECB: letters to Irish government, Berlusconi… Asks what kind of intervention is permissible when rules are violated.
Why does euro area still have national central banks?

Prof. Marianne Nessén (Sveriges Riksbank) offered some comments on uncertainty, the topic of the conference. Central bankers face a lot of uncertainty while making monetary policy. However, their communication has to be very clear and simple.
Central bankers have to translate research and laws into practive. But they have an incomplete understanding of the transmission mechanism.
Reviews of central banks in Sweden and Norway are ungoing.
*Norges Bank reports to the Norwegian ministry of finance, so not an independent central bank. Even manages the huge sovereign wealth/pension fund of Norway. While the ECB is focused on inflation, Norway’s central bank has a broad mandate. Financial stability gets same weight as price stability.
*The Swedish Riskbank on the other hand is an independent central bank. It has had an inflation target since 1993. Board of 6 members. Quid democratic control? What about payments systems, as Sweden is becoming a cashless society?

As a central banker herself, prof. Nessén notes that governors take important decisions on how to implement monetary policy. For example, who has direct access to the central bank? What collateral does the central bank accept?


Do you want to follow these debates without getting a PhD in economics first? My book Bankers are people, too is written for people like you! It contains chapters such as ‘Central banks’, ‘Quantitative easing’, ‘Central bank independence’, ‘Unconventional monetary policy’, and ‘Macroeconomic management’.

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