Interview with Christine Lagarde, President of the ECB, conducted by Petri Sajari
25 February 2023
President Christine Lagarde, the European Commission said last week that the euro area is set to narrowly avoid a technical recession. Before that, a recession was expected at the turn of the year. So how confident are you that recession is now avoidable in the euro area?
The most recent projections from both the IMF and the European Commission suggest that there will not be a recession in the EU or the euro area this year.
But there is a lot of uncertainty, and one central question is where the war is heading. Another big question is how the lifting of COVID restrictions in China will affect its economic recovery and the global economy. Wage negotiations and fiscal support will also play an important role.
What do you think are the main reasons for the better-than-anticipated economic developments in the euro area?
The euro area has benefited from a warm winter, which on the other hand is not a good thing as such because it is a manifestation of climate change. The energy saving measures and the solidarity between euro area countries have also played their part.
What do you mean by solidarity?
European countries have responded to President Putin’s unlawful and unjustified war by working better together. We will no longer buy Russian oil, and gas imports from Russia have gone down radically. Governments, such as Austria and Germany, Estonia and Finland, have been cooperating on securing energy supplies. These actions are an expression of solidarity to counter the consequences of this terrible war.
Let’s move on to inflation. Are you confident that headline inflation is now on a declining path?
Headline inflation is still unacceptably high, but it is likely to decline because energy costs are falling. Prices for crude oil and natural gas have already fallen to pre-pandemic levels. Core inflation – inflation without energy and food prices – is currently still at its highest level ever: in January, it was 5.3% for the euro area as a whole.
You have repeatedly said the ECB must stay on course when it comes to tightening monetary policy. The Governing Council intends to raise interest rates by another 50 basis points at the next monetary policy meeting in March and will then evaluate the subsequent path of monetary policy. So now, from your perspective, should the Governing Council also stand ready for a 50 basis point tightening in May? I mean after March, if it is warranted by the incoming data.
I’m not navel gazing or reading a crystal ball. I want to see the new data and I want to hear the views of my colleagues when they see the same data. It’s on that basis that we will take our decision. But one thing is sure: we want to bring inflation back to 2% in a timely manner.
So it is not impossible or out of the question that there would be another 50 basis point hike after March?
Our decisions will be determined by the incoming data and driven by our goal of returning inflation to 2%.
Some academics have said the issue is that the ECB should have started raising interest rates earlier than July 2022. In September, you said in the press conference that the ECB had underestimated earlier inflation and made forecasting errors. So how could those errors have affected the monetary policy decisions?
Most economists and forecasters initially anticipated that high inflation would be transitory and temporary, and that it would fade away. However, inflation spread into a much broader range of products and services. I’m not sure if starting rate hikes three months earlier would have made a major difference. What matters now is that we consistently stay the course.
But in hindsight…
We are looking at our forecasting models to see how we can better factor in elements that were not in those models and that could possibly be difficult to include in them. We could not have modelled the invasion of Ukraine by Russia or the supply bottlenecks caused by the COVID pandemic. All in all, we must improve our projections and do better in the future. Some of our Governing Council members are involved in this project. One of them is our Chief Economist Philip Lane.
A couple of questions now regarding the pandemic emergency purchase programme. Some academics have been arguing that the extremely loose monetary policy, especially in 2021, went too far because the fiscal stimulus was also strong at the same time. So, in hindsight again, to what extent did the monetary and fiscal stimulus together lead to the acceleration of inflation?
If we had not done all that, you would be asking me much tougher questions: why did we not continue quantitative easing for longer? And why did we not ensure financial stability by facilitating the flow of liquidity? I think that in this case it was right to err on the side of doing a lot rather than too little to safeguard the economic recovery.
You mentioned that it was good in 2020, when the pandemic hit the economy, that fiscal policy and monetary policy went in the same direction. Now we see that they are not going in the same direction. From your perspective, how big a problem is it that the central bank is trying to do everything to tame inflation but, at the same time, fiscal policymakers are trying to do many things to protect voters from getting hurt by high energy prices, which is leading to inflation?
Fiscal policy and monetary policy were completely aligned during the pandemic. Governments had to make fiscal decisions to support the economy and avoid its collapse, and to prevent bankruptcies and massive layoffs of employees. And we reacted to the pandemic-related risks to price and financial stability by launching a dedicated purchase programme and providing targeted lending. But the current environment of high inflation is different. Therefore, we adjusted monetary policy by ending net purchases and raising rates. And we are of the view that fiscal support needs to be targeted, tailored and temporary.
Have you seen any kind of rolling back so far?
There is clearly a risk of monetary and fiscal policies working at cross purposes.
A historical question about your tenure as President of the ECB: are you comfortable with the decisions you have made over the last couple of years? Or are there some regrets?
If anything, we should have maybe identified some inflation movements a little earlier, and not have assumed that there were too many transitory aspects to it.
The next question would be very similar to the one that we’ve already discussed. The primary objective of the ECB’s monetary policy of course is to maintain price stability, and you have said government support measures should be rolled back promptly as the energy crisis becomes less acute. And if they are not rolled back, they will rev up the inflationary pressures and lead to stronger monetary tightening. How important is it right now to coordinate fiscal policy with monetary policy in fighting inflation, and are there actually energy crises in the euro area anymore? Because, as you said, prices are down to where they were before the crisis.
The euro area economy is in a much better position now than it was last year. But we shouldn’t be complacent. Neither on the energy front nor on the inflation front. The right fiscal policy and monetary policy mix must be very finely balanced. What is important at the moment is that fiscal policy does not fuel inflation that would then call for tighter monetary policy.
Would it be possible that 2024 will be the year of monetary loosening if everything goes as predicted?
As I said, I’m not going to predict what monetary policy decisions will be. I’ll wait until our economists project new numbers and we will then analyse very carefully the data that we are given, and we will apply judgement also considering the new data. We have to be confident that inflation returns to 2%. And this has to be sufficiently sustained for us to be confident that we have reached our goal.
In the Governing Council’s next monetary policy meeting in March, we will also receive new projections from our economists. Then we will have a new outlook for the economy.
Central bankers are usually defined as hawks or doves. And in your second press conference as President of the European Central Bank, you wore a brooch depicting an owl, which is the symbol of wisdom. So how would you describe yourself: a hawk or a dove?
Oh, definitely an owl. One of the attributes of owls is that they have 360-degree vision. The ECB’s job is to ensure price stability. One of my jobs, in addition to fully understanding the economic situation, is to look at all the views around the Governing Council table to understand how my colleagues see the situation at the euro area level and at the country level, and to help them make the right decisions that will lead us to our goal – the price stability target.
We can see from the minutes of the December meeting that there was a discussion about what would be the right size of the hike. And we know that in Europe there are countries with a very heavy debt burden. Is it the case in the Governing Council now that those members who are representing countries with large debt burdens are more likely not to support as big a hike as the hawks would probably be willing to do?
The Governing Council members’ views are influenced by many aspects. But I wouldn’t pass a general judgement on a central bank governor that if you come from a high debt country, you’re a dove, whereas if you come from a low debt country, you’re a hawk. The beauty of the Eurosystem is that everybody comes to the table with conviction and with an open mind. And in a way you have to drop your preconceptions as much as you can to reach consensus. I have to say that the Governor of the Bank of Finland is remarkable for that too. I don’t know whether he is an owl, but he could be.
In Finland, GDP has not been growing for ten years. That is a fact. And then another fact is that it is because of weak labour productivity growth. So what would be your advice to increase labour productivity in Finland in order to secure long-term economic growth?
I think the improvement of productivity is a really key objective to have for Finland, as for many euro area countries, by focusing on working life, the availability of a skilled labour force, investment in education and promotion of innovation. I want to see another Nokia coming out of Finland, this beautiful country with 5.5 million inhabitants, with the most inventive, beautifully designed cell phones.
