布鲁盖尔-Forecast-errors-and-monetary-policy-normalisation-in-the-euro-area_25页_1mb

Summary of "Forecast errors and monetary policy normalisation in the euro area"

Core Content

This Policy Contribution by Zsolt Darvas examines the challenges and implications of monetary policy normalisation in the euro area, drawing lessons from the experiences of Sweden, the United States, and the United Kingdom. It highlights the importance of accurate inflation forecasts and the potential risks of premature tightening. The analysis also discusses the role of central bank balance sheets and forward guidance in shaping market expectations and the broader implications for monetary policy in the new 'normal'.

Main Conclusions

• Monetary tightening risks are high when the evidence of improved inflation is not strong; it is better to allow for inflation overshoots rather than premature tightening.
• Inadequate forward guidance can lead to market turbulence.
• Market participants may disregard forward guidance after large and systematic forecast errors.
• Stopping net asset purchases may not lead to higher long-term interest rates, but can affect other asset prices due to lack of portfolio rebalancing.
• The ECB has made significant and systematic forecasting errors over the past five years, suggesting issues with its inflation forecasting models.
• Market-based inflation expectations in the euro area have started to fall, indicating reduced confidence in the ECB's ability to meet its inflation target.
• More time is needed to determine whether the ECB's forecasting failures were due to temporary factors or a long-term compromise in its ability to raise core inflation.
• A cautious approach to monetary normalisation is recommended, with rate increases only advised after a significant rise in actual core inflation.
• If forecasting errors continue and core inflation does not reach the 2% target, the ECB's credibility could be undermined, necessitating a discussion on new tools or a revision of the inflation goal.
• In the new normal, the natural rate of interest is likely to remain low, making central bank balance sheet policies part of the regular toolkit.
• Monetary policy tools are not well-suited to address financial stability concerns, especially in the euro area. Country-specific macroprudential policies should complement micro-prudential supervision.

Key Lessons from Other Central Banks

Sweden

• Premature tightening in 2010 led to inflation undershooting, higher unemployment, and increased real debt burdens.
• Despite reaching the 2% inflation target in 2017, the Riksbank remained cautious, as core inflation dropped again in mid-2018.
• Stopping net asset purchases did not lead to a significant increase in long-term interest rates.
• The Riksbank's forward guidance was ineffective, possibly due to systematic forecast errors.

United States

• The taper tantrum in 2013 caused a significant rise in the 10-year yield, even though the Fed had not yet raised rates.
• The unemployment rate fell below 6.5%, but inflation did not pick up, leading to a delayed rate increase until 2015.
• The 10-year yield eventually fell, indicating that forward guidance and tapering alone were not enough to raise long-term rates.

United Kingdom

• The Bank of England's forward guidance was revised in 2014, leading to a temporary rise in long-term yields.
• The 25 basis point rate increases in 2017 and 2018 did not lead to significant changes in long-term yields.
• The Brexit uncertainty may have influenced market reactions.

ECB's Forecasting and Policy Challenges

• The ECB's inflation forecasts have been consistently inaccurate over the past five years, suggesting mis-specified behavioural relationships in its models.
• The inability to lift core inflation above 1% has raised concerns about the ECB's inflation targeting credibility.
• Market-based inflation expectations have fallen, indicating loss of confidence in the ECB's ability to meet its inflation objective.
• Central bank balance sheets are expected to remain large in the new normal, as interest rates are likely to stay low.
• The ECB's forward guidance must be clear and aligned with actual economic developments to avoid market misinterpretation.

Implications for the Euro Area

• Monetary policy normalisation should be carefully timed and executed, with a focus on actual inflation data rather than speculative forecasts.
• Financial stability concerns should not influence the normalisation process, as monetary tools are not well-suited for this purpose.
• Macroprudential policies at the national level should complement central bank supervision to address financial risks effectively.
• The ECB's credibility is at risk if it continues to fail in raising core inflation, which may lead to a re-evaluation of its inflation target or the deployment of new policy tools.

Recommendations

• Avoid premature tightening unless there is strong evidence of an improved inflation outlook.
• Maintain a cautious approach to monetary normalisation, with rate increases only occurring after core inflation rises significantly.
• Improve forward guidance to ensure it aligns with the ECB's inflation objectives and is not disregarded by market participants.
• Allow for a gradual reduction in asset purchases, but be prepared for the fact that long-term interest rates may not rise.
• Encourage broader debate on forecasting practices and the role of central bank balance sheets in the new monetary policy environment.