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Bank of Finland Bulletin 4/2013Monetary policy and the global economy

Governor

Erkki Liikanen

17 September 2013

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Monetary policy and the global economy

¨ Articles and a BoF Online:– Financial cycles, monetary policy and macroprudential policy in the

euro area• Hanna Freystätter, Hanna Putkuri and Jukka Vauhkonen

– Liquidity regulation makes a comeback• Karlo Kauko

– Fiscal multipliers revised• Pasi Ikonen, Tuomas Saarenheimo and Matti Virén

– Foreign trade statistics based on value added challenge the traditional picture of international trade• Elisa Newby

– A perspective on the German ‘job miracle’: labour market outcomes and welfare after the labour market transformation• Michaela Schmöller

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Presentation themes

¨ Cyclical situation and global economic outlook

¨ ECB’s forward guidance reinforces accommodative monetary policy

¨ Banking union is an important structural reform

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The cyclical situation and the Bank of Finland’s global economic forecast

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Share prices reflect differences in growth outlooks

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70

80

90

100

110

120

130

140

150

160

2010 2011 2012 2013

Advanced economies Euro Stoxx United States Japan Emerging economies

Index, 4. Jan 2010 = 100

Source: Bloomberg.

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0

2

4

6

8

10

12

14

16

18

2010 2011 2012 2013

United States Japan Germany Italy Spain Finland Portugal%

Yealds on 10-year gevernment bonds.Source: Reuters.

Bond markets tell a similar story

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-150

-100

-50

0

50

100

150

2010 2011 2012 2013

China

Index, 0 = data as expected

Source: Macrobond.

Citigroup economic Surprise Indices: real economy

In China, data on real economy raises questions

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?

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-150

-100

-50

0

50

100

150

2010 2011 2012 2013

Euro area China

Index, 0 = data as expected

Source: Macrobond.

Citigroup economic Surprise Indices: real economy

In China, data on real economy raises questions, euro area data better than expected

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?

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30

35

40

45

50

55

60

65

2008 2009 2010 2011 2012 2013

United States Euro area Japan China

Balance

Source: Bloomberg.

Industrial confidence improved particularly in euro area and United States

Industrial confidence improved, especially in euro area and United States

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-30

-20

-10

0

10

20

30

2000 2002 2004 2006 2008 2010 2012

Euro area High-rated countries excl. Germany Germany GIIPS countries

Average = 0

Sources: European Commission and Bank of Finland.

Consumer confidence in the euro area

Euro area consumer confidence improved, especially in Italy and Spain

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Public debt ratios still growing

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150

175

200

225

250

30

60

90

120

150

2008 2010 2012

Euro area United StatesHigh rated countries* GIIPS**United Kingdom Japan (right-hand scale)

% of GDP % of GDP

* Germany, France, Netherlands, Belgium, Austria and Finland.** Greece, Ireland, Italy, Portugal and Spain.The figures for 2012 are based on European Comission spring 2013 forecasts.Sources: European Commission, ECB and calculations by the Bank of Finland.

Public debt ratios still rising

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Euro area unemployment still high

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2

4

6

8

10

12

14

2005 2007 2009 2011 2013

United States Euro area Japan Finland Brazil

%

Brazilian figures have been seasonally adjusted at the Bank of Finland.Sources: Bloomberg, Eurostat and Statistics Finland.

Euro area unemployment still remarkably high

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-12

-10

-8

-6

-4

-2

0

2

4

6

8

2005 2007 2009 2011 2013

Fixed investment Global imports

% change since previous observation

The concept of fixed investment is slightly different in different countries and includes data from the United States, Japan, Germany and United Kingdom.Sources: BEA, CPB, Macrobond and calculations by the Bank of Finland.

Fixed investment and world trade slowed almost hand-in-hand

Fixed investment and world trade have slowed almost in tandem

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Slower growth in emerging economies

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-15

-10

-5

0

5

10

15

20

2005 2007 2009 2011 2013

Brazil India China Russia

%, annual change

Source: Macrobond.

Growth in emerging economies slowed more than expected

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Bank of Finland growth forecast: changes minor

GDP 2012 2013f 2014f 2015fUnited States 2.8 1.6 2.5 2.9

1.8 2.4 2.8

EU20 -0.4 -0.1 1.2 1.6

-0.4 1.1 1.5

Japan 2.0 1.6 1.5 1.2

1.1 1.7 1.0

China 7.8 7.5 7.0 7.0

8.0 7.0 7.0

Russia 3.4 1.8 3.3 3.2

3.4 3.4 3.0

World 3.4 3.0 3.7 3.8

  3.2 3.6 3.8

World trade 3.0 2.6 5.1 5.9    4.0 5.7 6.3% change on previous year. Previous forecast beneath current one.EU20 = euro area, Sweden, Denmark and United Kingdom.  

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-3

-2

-1

0

1

2

3

4

5

2010 2011 2012 2013 2014 2015

EU20* United States Japan

%

* Euro area, United Kingdom, Sweden and Denmark.Sources: National statistical authorities and calculations by the Bank of Finland.

EU20 and US inflation slow; in Japan, period of deflation over

Bank of Finland forecast: inflation still slow

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Forecast risks

¨ Debt crisis flaring up again remains the greatest single risk, although now less likely – Market data improved across a broad range– Threat of renewed flare-up relates to implementation of programmes

and their reforms; political risks hard to forecast

¨ Otherwise there are both on upside and downside risks– US economy could perform better than forecast

• Strong undertone to both labour and housing markets• Communication of monetary policy particularly important in present

forecast period– Euro area growth could be slower than forecast

• Delays to structural reforms could lead to slow productivity development and slower-than-forecast growth

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ECB’s forward guidance reinforces accommodative monetary policy

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0

1

2

3

4

5

6

2008 2009 2010 2011 2012 2013

United States Japan Eurosystem United Kingdom Sweden

%

Source: Bloomberg.

Central bank interest rates

Historically low level of key policy rates continues for the fifth year in a row

Era of historically low interest rates continues for fifth consecutive year

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Repayment of central bank credits has reduced Eurosystem balance sheet

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0

5

10

15

20

25

30

35

40

45

50

2008 2009 2010 2011 2012 2013

United States Japan Eurosystem United Kingdom

% of DGP

Sources: National statistical authorities, Eurostat and Bloomberg.

Central bank balance sheets

Eurosystem balance sheet contracts

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Monetary policy forward guidance

¨ Fed (December 2012): – The exceptionally low range for the federal funds rate will be

appropriate at least as long as the unemployment rate remains above 6.5%.

¨ ECB (July 2013):– The Governing council expects the key ECB interest rates will

remain at present or lower levels for an extended period of time.

¨ BoE (August 2013):– The MPC intends not to raise the Bank Rate above its current

level of 0.5% ….. at least until the headline measure of unemployment has fallen to a threshold of 7%.

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Forward guidance by the ECB Governing Council

¨ The ECB’s monetary policy stance will remain accommodative as long as is necessary– The Governing council expects the key ECB interest rates will

remain at present or lower levels for an extended period of time.

¨ Euro area price pressures are expected to remain moderate over the medium term– The short and medium-term inflation outlook remains moderate,

with the real economy extensively weakened and the monetary economy subdued.

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Sluggish transmission of accommodative monetary policy

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-1

0

1

2

3

4

5

6

7

2003 2005 2007 2009 2011 2013

%

* Germany, France, Netherlands, Belgium, Austria and Finland.** Greece, Italy, Ireland, Portugal and Spain.New corporate and housing loan agreements with original interest fixed for at most 1 year.Sources: ECB and Bank of Finland calculations.

High-rated countries*, bank loansGIIPS countries**, bank loansHigh-rated countries*, housing loansGIIPS countries**, housing loans3-month Euribor

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Tight financial conditions for SMEs hampering the economy

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0

1

2

3

4

2003 2005 2007 2009 2011 2013

%

Source: European Central Bank.

Margin of loans to SMEs* Margin of loans to large non-financial corporations**

Tight financing conditions for SMEs hampering the economy

* Average rates of new corporate loans for up to 1 million tied to at most 1 year's reference rates - 3-month Euribor.** Average rates of new corporate loans for over 1 million tied to at most 1 year's reference rates - 3-month Euribor.

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Growth in loan defaults sustains uncertainty over the condition of banking balance sheets

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0

5

10

15

20

25

2000 2002 2004 2006 2008 2010 2012

% of loan stock

Source: IMF.

Belgium Germany Spain France ItalyGreece Ireland Portugal Euro area

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Banking union is an important structural reform

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Banking supervision and resolution institutions must be reinforced

¨ A single monetary policy, integrated financial markets and national supervision and resolution create a fragile package (a ‘financial trilemma’).

¨ The mutual interdependence between a bank and its home state constitutes a ‘fateful connection’.

¨ Banking supervision and resolution requires better institutions than currently available.

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What should banking union comprise?

Banking supervision• Effective,

• supranational and• uniform supervision

Resolution• Harmonised tools

• Investor responsibility (bail-in) • Sectoral responsibility (funds)

• No bank support

Deposit guarantee• Harmonisation

• Sectoral responsibility (funds)

Bank support (bail-out)• Expensive, politically

charged• case-by-case political

discretion (ESM)

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When this is implemented with care…

…the need for this is substantially reduced!

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What is already agreed? How is the construction of banking union progressing?

Single Supervisory Mechanism

(SSM)• Attached to the ECB

• Commences work in 2014

Single Resolution Mechanism (SRM)

• Commission proposal• Sectoral responsibility

(funds)• Target for commencement

2015

Directive on Deposit Guarantee Schemes

(DGS)• Harmonisation of national

regulations• Will still be national

European Stability Mechanism

(ESM)• A new support tool• Max. EUR 60 billion

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Balance Sheet Assessment(BSA)

• ECB assessment • Tackling major problems in

asset quality• Spring 2014

Bank Recovery and Resolution Directive

(BRRD)• Controlled resolution of

failed banks• Creditors’ responsibility

(Bail-in) 2018

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Authorities should foster the stability of the entire financial system

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Financial regulation and supervision

· Financial stability· Systemic risks

Macroprudential policy

…and post-crisis

Source: IMF.

· Price stability risk· Economic activity

Macroeconomic policies(monetary/fiscal/external)

Authorities should foster the stability of the entire financial system

Pre-crisis

Idiosyncratic risk· Price stability risk· Economic activity

Macroeconomic policies(monetary/fiscal/external)

Financial regulation and supervision

Idiosyncratic risk

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In conclusion

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Towards a more stable euro area

Member States¨ Better rules

– Six-pack, two-pack, …– Balance of the entire

national economy is vital

¨ Market discipline– Countries are not identical– Risks reflected in price

Financial system¨ Better rules

– Banking union– Integrated application and

interpretation

¨ Market discipline– Banks are not identical– Risks reflected in price

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Summary

¨ Cyclical situation and outlook for the global economy– Good news: forecasts have not had to adjusted downwards– Global economic outlook still subdued

¨ Monetary policy forward guidance– The ECB Governing Council expects key ECB interest rates will

remain at present or lower levels for an extended period of time.– Assessment conditional on inflation outlook

¨ Banking union – An important structural reform– Strengthens confidence in the banks and their operational capacity

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Thank you!

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