Transcript Charles Wyplosz

Monetary Policy and Fiscal Soundness:
Do we Have a German Problem?
Charles Wyplosz
The Graduate Institute, Geneva and CEPR
57th Annual Conference of the Italian Economic Association
Milan, 22nd October 2016
The immediate concern
• May Eurozone countries have not recovered
• The ECB is fighting below-target inflation and high
unemployment
• Fiscal policies are pro-cyclical
• Germany has recovered
Output gaps (% potential GDP)
Lost ouptut:
17% of GDP
Germany and the Eurozone
Stability Pact
“in abbeyance”
Highly correlated
Source: European Commission
Highly uncorrelated
The problem
• One size does not fit all
 ECB cannot please all
 Useless appeals to Courts
• This is when fiscal policy must be used
• But “fiscal space” is limited where gaps are large
We need think how the Eurozone can/should function
Possible answers
• Germany does not need a fiscal expansion
 True, no reason to raise public indebtedness
• Countries in difficulty have only themselves to blame
 True: lack of reforms, perennial fiscal indiscipline
 But fixing these will make things worse in the short run
• Time to play by existing rules
 The moral hazard view
• What if rules are bad? Time to review them
The money/fiscal connection
• The German fear
 ECB will never exit because of existing debts
 Inflation
• The German solution
 Wait until output gaps close
 Meanwhile: reform and reduce deficits and debts
• Can we do better?
Can we do better? Some principles
• ECB cares about Eurozone as a whole
 Monetary policy to remain expansionary
 Exit when needed
• Governments must prepare and deal with excessive debts
• Many solutions (ESBies, blue/red bonds, PADRE)
• Adapt policy mix to national conditions
 Germany: easy money/tight fiscal
 Large-gap countries: easy money/easy fiscal
• Stability and Growth Pact in abbeyance
• Deal with moral hazard: reinstate no-bailout
The underlying issue
• Monetary policy has fiscal characteristics
 Open market operations absorb public debts
 Interest rates affect budgets (and redistribute incomes)
 Ultimately, money backed by taxpayers
• The asset side of central banks
• The answer – monetary dominance – can never be
absolute
 Fiscal policy mismanagement forces central banks to act
 Banks need a lender of last resort, states too
• These issues are ignored
Conclusion: a reminder
Inflation in Germany 1956-2015
8
Bundesbank
ECB
Average Bundesbank
Average ECB
7
6
5
4
3.1%
3
2
1,4%
Source: OECD
2013
2010
2007
2004
2001
1998
1995
1992
1989
1986
1983
1980
1977
1974
1971
1968
1965
1962
-1
1959
0
1956
1