05 July 2012

Bundesbank/Weidmann: Ensuring the stability of the Union

Translated from the original German

The role of monetary policy

It is clear to the Bundesbank that the debt crisis in the euro area is an extraordinary situation that requires extraordinary measures. However, we have always warned of the risks and side effects of monetary and fiscal crisis operations. So even short-term crisis actions must be considered against the background of long-term effects. A purely short-term, crisis-orientated policy along the lines of "necessity knows no law" we cannot and do not approve of.

The Bundesbank is behind the euro. And that is why we are committed to ensuring that the euro remains a stable currency and monetary union, a union of stability. There are various ways to achieve this goal. But we will certainly not achieve this goal if the European monetary policy is increasingly hindered for purposes that do not comply with its mandate.

The unconventional special measures of the Eurosystem have helped to prevent an escalation of the crisis. However in the wake of these actions, the Eurosystem has had to take considerable risks onto its balance sheets, redistribute risks within the euro area, and expand its mandate. The problem is that we are increasingly pressured to make far-reaching decisions which are, in my opinion, not democratically legitimite. This is especially true under the conditions of a currency union of sovereign Member States. In addition, it should be clear that these balance sheet risks represent risks to the reputation and credibility of central banks.

What is ultimately reflected in the increased balance sheet risks is that fact that, in the course of fighting the crisis, the boundaries between monetary and fiscal policies have become more complex. As inevitable as this blurring is to a certain extent, it must not lead to a monetary policy which is harnessed to the carts of fiscal policy. Unlimited government bond purchases, or a central bank financing of the rescue systems "banking license", as demanded repeatedly, do not just stretch the mandate of central banks, they are incompatible with it. This would be in conflict with the Prohibition of Monetary Public Sector Financing [Verbot der monetären Staatsfinanzierung], which states that federal deficits may not be financed with the help of the printing press. For that reason and that reason alone, the Eurosystem was made independent, so that it can ensure monetary stability. Independence may not be used to circumvent the democratic legitimacy of fiscal policy decisions.

Monetary policy cannot solve the crisis in the euro area. The crisis is essentially a crisis of confidence, and trust cannot be bought with money. It has to be worked on laboriously; the problems tackled at their roots. Only financial and economic policy can bring about the measures needed to tackle the causes of the crisis.

However, the course of the crisis to date has shown that very often if the central banks have taken emergency measures, the resulting decline in pressure has meant that fiscal policy has put its homework on the back burner. The concerns of the founding fathers of the Monetary Union have so far proved to be justified. And if anyone believes that a sustainable European house can be built on the foundation of central bank financing, they are mistaken and are confusing painkillers with effective treatment. We need fundamental policy direction, supported by the population and legitimised.

Ways to a consistent EMU framework - Accountability and control must be brought into balance

A further extension of joint liability rules therefore requires strict central control and rights of intervention. These represent a significant encroachment on national sovereignty... and typically require adjustments to national constitutions.

Such integration is not achieved in a day. But that doesn't mean is should be turned on its head. If the sequence of steps towards strengthening integration, i.e. first establishing joint liability and then looking at long-term fiscal union, are reversed, we will not achieve a stable Union.

Did the euro summit last week create any more clarity? My answer is no. A definitive verdict is difficult because the decisions are open to a wide room of interpretation. What remains unanswered in particular, is whether the Maastricht framework will continue to apply, or whether further integration including the abandoning of national sovereignty - in the fiscal area - is aimed at. As long as this remains unclear, the announcement of new aid must be looked at critically, especially if it is given largely without additional conditions, and rules for the protection of the donor countries - keyword priority creditor status - are to be softened. The original concept which sees last resort aid with strict conditions and monitoring will be softened so that the balance between accountability and control is shifted back towards group liability.

The second outcome of the summit is the commitment to a truly European banking supervision. This could in principle be an important part of a greater integration of the monetary union. But it depends also on the specific design and the right sequence of steps. Accountability and control must also remain in balance. A direct bank recapitalisation on joint funds should not be done until an effective supervisory structure has been established, and not before the shareholders and the Member States concerned have taken responsibility for their mistakes.

I believe that a reorganisation of the institutional framework of banking supervision must also be embedded in a comprehensive restructuring of the regulatory framework of supervision, and in a limiting of the scope of national economic and financial policies. To see this differently would be to overtax the supervision. What is also unclear is a) the question of parliamentary control of the centralised supervision, which would also make sovereign decisions, and b) potential conflicts of interest, if the ECB were to take over supervisory functions.

Full speech (German only)

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