Benoît Cœuré, Member of the Executive Board of the ECB, gave a speech about the macroeconomic stabilisation in the euro area. He says that there’s broad agreement that without our unprecedented actions, the euro area would have fared far worse. Even more people would have lost their jobs, and wages and prices would have stagnated for much longer, or would even have fallen. Although our actions were bold and unparalleled, we acted within our mandate, as confirmed by the European Court of Justice.
The establishment of the European Stability Mechanism, and the progress made in setting up a banking union, have fixed some of the shortcomings in euro area governance and instruments. These steps were important in easing the pressure the crisis has put on the ECB. But many of the institutional failings that caused and perpetuated the crisis remain unresolved. Incentives to pursue sound policies remain too weak and stabilisation of shocks too difficult. These are deep-rooted issues that cannot be resolved by a few years of above-trend growth. To assume that the current economic expansion will heal all wounds is naive. The euro area needs reform.
Not interfere in the details of what is mostly a political debate
As the central bank of the euro area, the ECB should not interfere in the details of what is mostly a political debate. But we have a stake in the success of the current discussion. Without further reforms, the next crisis may well force the ECB to test the limits of its mandate. Depending on the nature of the next crisis, policy action might require taking short-term rates much deeper into negative territory. Or it might require purchases of assets that are riskier than public or corporate debt. Or it may draw us dangerously close to monetary financing of governments.
As things stand today, and given member states’ still limited fiscal policy space, even a small downturn could create large economic and social costs. It could, once again, test the cohesiveness of the currency union. Unless the euro area finds a way to change direction, to reform itself and to regain space for active macroeconomic policy, the same fractures we saw in 2012 could reappear and widen when the next downturn comes.
Reform ideas
Many ideas for reforms are being floated, of course. Some are bolder than others. The recent proposals by German and French economists are a worthwhile attempt to bridge differences and surmount trade-offs. Today I will not offer another blueprint. What I will offer instead are requirements than any euro area reform will have to pass. I will call them the three “lines of defence” that any well-functioning monetary union depends on. They are needed to deliver a stable currency. They are needed to protect the ECB and its mandate. And they are needed to keep belief in the future of the euro strong.
Flexible markets form the first line of defence
They are indispensable for a currency union. They reduce the need for macroeconomic stabilisation and curb contentious debates about crisis management. Markets that can absorb shocks efficiently do not waste costly political capital. And they create more policy space in downturns, for both fiscal and monetary policy.
To bolster the first line, the way we implement economic policies needs to change. The current system has clearly not delivered its intended benefits. Take the European Commission’s country-specific recommendations as an example. In 2016, less than 5% of the recommendations were implemented by Member States. Limited enforcement of the recommendations, rather than the incorrect identification of the main issues, has made the existing framework fail. Why? Because recommendations from outside a country, even if correct on substance, are typically dismissed. Sovereign governments don’t accept what they see as diktats from Brussels. Economists should have known better. Incentives are the drivers of our actions. So, if outside recommendations are perceived as being politically too costly, then we need to find solutions that promote national “ownership” of reform efforts. Money is not the answer. It is political incentives that need resolve.
The other key domain to spur the catalyst function of our market economies is the Single Market. It is incomplete as we all know. Take services as an example. They account for over 70% of the EU’s GDP and an equal share of its employment. But we still face significant barriers when it comes to cross-border service provision in the EU. The Services Package that was adopted about a year ago was a step in the right direction but more needs to be done.
First line of defence
Efficient and integrated financial markets are part of the first line of defence. In the United States, around 60% of a shock to a state’s GDP is cushioned by financial markets. In the euro area, the share is currently closer to 20%. Country-specific shocks remain unsmoothed to a large extent, mainly because cross-border equity risk-sharing is hugely underdeveloped in Europe.
A true capital markets union could significantly help to diversify and reduce risk. It would thereby limit the financial burden to be levied by governments in the case of adverse shocks. And it would broaden the scope of monetary policy transmission beyond the banking sector, making policy less vulnerable.
Finally, to avert banking collapses, governments in the past were forced to disburse large sums of public money in the pursuit of economic and financial stability. Completing banking union will reduce risks for taxpayers and break the remaining link between banks and national governments. A European deposit insurance scheme is a precondition for a truly integrated banking system and single money. Let us not forget that 86% of our money is created by commercial banks. The transmission of the ECB’s monetary policy will always be incomplete as long as differences in depositor confidence prevail across the euro area.
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Read the full version of the speech on the website of the ECB.
Source: https://www.ecb.europa.eu/
