|
|
In 2014 various strands of work initiated in previous years came together to produce a consistent policy response, one that allows ECB now to envisage with confidence that the weak and uneven recovery experienced in 2014 will turn into a more robust, sustainable upturn – and that inflation will return without undue delay to the ECB’s objective of below, but close to, 2% over the medium term.
From a monetary policy perspective, the environment ECB faced in 2014 was complex. The muted recovery that had begun in 2013 did not accelerate as initially expected. Monetary growth remained subdued and credit continued to contract, albeit at a gradually slower pace. In a context of low domestic inflationary pressures, the considerable fall in oil prices from the middle of 2014 resulted in further significant falls in inflation towards the end of the year. A key concern in this environment was that inflation would remain low for too long a period of time, ultimately also affecting inflation expectations over the longer term.
This called for monetary policy to act forcefully. ECB had to deploy unconventional monetary policy measures for two broad reasons. First, the transmission of ECB’s monetary policy had for some time been impaired across the euro area, with wide differences between countries. And second, the scope for using the standard instrument of monetary policy – short-term nominal interest rates – was limited as those rates were already near the effective lower bound.
In June and September, that remaining margin was exhausted as the Governing Council lowered policy interest rates to the effective lower bound, and introduced a negative interest rate on the ECB’s deposit facility. ECB also announced a series of targeted longer-term refinancing operations (TLTROs) with the intention of supporting bank lending to the real economy.
In September the Governing Council responded to a further worsening of the inflation outlook by announcing purchases of asset-backed securities and covered bonds, thereby initiating a monetary expansion by means of asset purchases, which was subsequently buttressed by the decision, announced in January 2015, to also purchase public sector securities.
Unusual challenges called for unusual responses. And this also applied to ECB’s communication. As the response of the economy to monetary policy impulses depends crucially on expectations, ECB had to make a greater effort to explain how ECB understood the new economic environment and to clarify ECB’s reaction function within it.
In this vein, alongside the strengthening of the forward guidance which ECB had introduced in 2013, ECB laid out clearly in April the contingencies that would – and eventually did – prompt the Governing Council to take action. The monetary policy measures taken through the year were fully consistent with the road map laid out then. They confirmed the unanimous commitment signalled by the Governing Council to use both conventional and unconventional instruments to deal effectively with the risk of a too prolonged period of low inflation.
ECB’s focus on continuously enhancing the transparency of ECB’s deliberations and actions culminated in the announcement of ECB’s intention to start publishing accounts of the monetary policy discussion during Governing Council meetings. This began for the first meeting of 2015.
Monetary policy does not, however, operate in a vacuum, and it benefited from another major undertaking by the ECB in 2014: the preparations for and start of operations of the Single Supervisory Mechanism (SSM). This extraordinary achievement, which involved hiring hundreds of new staff over a short period of time, provided the opportunity to conduct the largest-ever review of the quality of bank assets.
The year-long comprehensive assessment of the balance sheets of the euro area’s 130 biggest banks, which was completed in 2014, increased transparency and prompted many institutions to take pre-emptive action to strengthen their balance sheets, including via asset sales and capital raising. This in turn helped to put the banking system in a better position to transmit monetary policy impulses, and more generally to support the recovery by performing more normally its function of efficient credit allocation in the real economy.
Early evidence shows that ECB’s parallel policy initiatives, when combined, were effective. Bank lending rates to non-financial corporations started to decline in the second half of the year, and showed less dispersion across countries. The contraction of credit appears to be reversing. Growth projections, as well as inflation expectations – reflected both by outside observers and by ECB staff projections – have been revised upwards. And confidence overall has increased.