LaGarde, guardian of money?
A letter from ... Carsten Mumm. The chief economist of the bank Donner & Reuschel thinks about the monetary policy of the next decade.
On 1st November Christine Madeleine Odette Lagarde took over the Presidency of the European Central Bank. It will probably be responsible for the stability of our currency for eight years now. I'm pretty sure it'll be a very exciting eight years.
First of all, Lagarde takes over a heavy backpack. Its predecessor, Mario Draghi, has undoubtedly acquired Meriten as the "saviour of the euro". But the lowering of the key interest rate to zero percent, the introduction of a negative deposit rate and the decision to launch an extensive program to buy government and corporate bonds also had massive negative effects. With its bond purchases, the ECB at least extended its mandate quite broadly. The indirect public funding through this programme leaves a bland aftertaste. After all, a monetary union can only be successful if it enjoys the confidence of its citizens. This is also damaged by the continuing policy of low and negative interest rates. This is because our funded pension systems no longer function. The damage will become obvious when the baby boomer generation retires.
I just don't think the ECB can go on like this for eight more years. The price distortions would be too great. Too high the number of zombie companies that are only kept alive by the low interest rate and make economies more fragile. The social and political frictions would be too massive.
That's why Mrs. Lagarde's gonna try to pull the hell out of it. It is not for nothing that the ECB carries the two-percent inflation target in front of it like a monstrance. She wants to achieve this goal at all costs.
The million euro question now is how this is to be done. The International Monetary Fund published an interesting working paper in April 2019 - deep negative rates. In principle, the IMF is looking into the question of whether significantly negative key interest rates - let's say minus two percent and lower - could have an impact on the economy and raise inflation. The result of the authors is clear: Yes, it can work.
It is particularly piquant that Christine Lagarde moved directly from the top of the IMF to the ECB. She certainly has this paper in her suitcase.
The hope of this approach is that the ECB would have to set the minus two percent only briefly, quickly initiate a significant economic upswing and then return to normality.
This series of subjunctives can also be found today in other monetary policy ideas that we would not even have dared to think of years ago. In the Modern Monetary Theory from the USA, the central bank is placed under the wing of the government. This one would take as much money as she needed. And if inflation were to occur, it would simply raise taxes.
With helicopter money, the central bank would set up an account for all residents of the euro zone and book 1000 euros on it. Or it would provide money pots from which the state, companies and private individuals could make use. Until inflation came.
I'm having a big stomach ache. The ECB is also likely to have these. But she just hit a dead end at full throttle because she had to save the world ten years ago. And you can't get out of it now. The fear is too great that the whole asset price bubbles will burst if it signals that it is no longer doing so. This would have repercussions on banks, the labour market, consumption - the economy would be hit even harder.
But the ECB also knows that the longer it continues with the same policy, the more problematic the actual end will be. The strategy is probably to push this as far back as possible - in the hope that an economic or productivity miracle will solve the problem.
In this way, the central banks will drive the capital markets forward for quite some time to come. Christine Lagarde may not be the guardian of the value of money, but she will be the guardian of all our investments.