ECB’s Draghi Calls on Euro Area to Prime Fiscal Pumps

Monetary Policy Week in Review: 18-22 August 2014

by Peter Nielsen, Central Bank News

The split in global monetary policy between the world’s major central banks was thrown into sharp relief last week as it once again became clear that U.S. and U.K. monetary policy will soon be tightened while the European Central Bank (ECB) launched an impassioned plea for euro area governments to step up to the plate and use fiscal policy to boost faltering demand.

With growth improving and unemployment falling, last week’s minutes from both the U.S. Federal Reserve and the Bank of England (BOE), along with the message from Fed Chair Janet Yellen at Jackson Hole, showed that the two banks are inching closer to the point of raising rates for the first time since July 2006 and July 2007, respectively.

While most of the media attention was focused on Yellen’s inaugural speech at the two-day Jackson Hole Economic Symposium – which essentially mirrored the Fed’s July minutes released last Wednesday – it wasMario Draghi, ECB president, who really broke new ground.

Draghi, who in the past has applauded euro zone governments for reducing budget deficits, appeared to have had a change of heart and laid out a case for fiscal policy to help stimulate demand now that the ECB has cut rates to close to zero and launched an aggressive package of stimulative measures.

Although the measures have yet to take effect, Draghi also stressed that the ECB remains ready to adjust its policy stance further, a sign that additional measures are being prepared.

Since the sovereign debt crises in 2010, which threatened and shook the euro zone to its core, fiscal policy has been “less available and effective, especially compared with other large advanced economies,” Draghi said, adding euro area debt in aggregate is not higher than the U.S. and Japan.

“Thus, it would be helpful for the overall stance of policy if fiscal policy could play a greater role alongside monetary policy, and I believe there is scope for this,” Draghi told fellow central bankers during his luncheon address on Friday in Jackson Hole.

While acknowledging the limits on deficits that are embedded in the euro area’s Stability and Growth Pact, Draghi said flexibility within those rules could be used to make room for the cost of urgently needed structural reforms to help boost competitiveness.

In addition, Draghi said government taxes and expenses should be cut, a move that would help business confidence and private investment in the short term.

Another initiative is for euro area governments to coordinate their fiscal stance – a sensitive topic especially for German politicians – to “allow us to achieve a more growth-friendly overall fiscal stance for the euro area.” Finally, Draghi called on a large public investment program on a EU-wide level, backing proposals by the incoming president of the European Commission, the European Union executive. LIST OF LAST WEEK’S CENTRAL BANK DECISIONS:

• Namibia raises rate to curb credit, luxury good imports
• Iceland holds rate, current rate enough to curb inflation

OTHER STORIES LAST WEEK:

• Central bankers mull jobless, stargaze at Jackson Hole
• BIS: Global asset prices, interest rates more correlated

TABLE WITH LAST WEEK’S MONETARY POLICY DECISIONS:

This week (Week 35) eight central banks are scheduled to decide on monetary policy: Israel, Angola, Hungary, Turkey, Albania, Fiji, Egypt and Colombia. TABLE WITH THIS WEEK’S MONETARY POLICY DECISIONS:

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