Mistakes Irrend lernt man (Learning through mistakes) Johann - - PowerPoint PPT Presentation

Europe and Finland – 20 years of Monetary Union

Turku Europe Forum 30 August 2018 Intervention of Francesco Papadia

Mistakes

Irrend lernt man (Learning through mistakes) Johann Wolfgang von Goethe

2

Six mistakes: 3 in Rome and 3 in Frankfurt/Brussels

• Rome Mistakes
• Italian fiscal policy 1965-1994
• Italian monetary policy 1972-1995
• Squandering the € bonus 1995-2007
• Frankfurt/Brussels mistakes
• ECB interest rate increases in 2011
• Euro-area fiscal policy in 2011-2014
• German current account surplus 2000-2018

3

Rome Mistakes I

Italian fiscal policy 1965-1994 Fiscal deficit and Government debt. Ratio to GDP. 1965-2005.

2 4 6 8 10 12 14 16 20 40 60 80 100 120 140 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

% GDP % GDP

Gross Debt Net borrowing (rhs)

4

Rome Mistakes II

• Italian monetary policy 1972-1995

5

Rome Mistakes II

An unrelenting devaluation of the lira. 1965-1998.

150 300 600 1200 1965 1965 1966 1967 1968 1968 1969 1970 1971 1971 1972 1973 1974 1974 1975 1976 1977 1977 1978 1979 1980 1980 1981 1982 1983 1983 1984 1985 1986 1986 1987 1988 1989 1989 1990 1991 1992 1992 1993 1994 1995 1995 1996 1997 1998 1998 LIT/DM exchange rate DM/LIT +2 S.D.

• 2 S.D.

Bretton Woods Snake in the tunnel ERM I-II

6

Rome Mistakes II

• High and unstable inflation and interest rates. 1965-1998.
• 4
• 2

2 4 6 8 10 12 14 16 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 bps

• Int. rate spread Italy-Germany

Inflation Germany

• Infl. Diff. Italy-Germany

Bretton Woods Snake in the tunnel ERM I-II

7

Rome Mistakes II

• Trend decrease of growth. 1960-2018.
• Trend increase of unemployment. 1960-2018.
• 10
• 5

5 10 15 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

%

Growth of GDP per capita Unemployment rate

Pre € €

8

Rome Mistakes III

• Squandering the € fiscal bonus
• Primary surplus/deficit as a ratio of GDP. 1990 – 2017.
• 3
• 2
• 1

1 2 3 4 5 6 7 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

% GDP

9

Rome Mistakes III

• Squandering the € fiscal bonus
• Debt to GDP ratio. 1990-2017.

60 70 80 90 100 110 120 130 140 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

%

10

Rome Mistakes III

• Squandering the € bonus
• Perfect interest convergence, imperfect inflation convergence
• Differentials between Italian and German expected inflation and 10-year

government bond yields. 1985 – 2017.

• 1

1 2 3 4 5 6 7 8 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

%

spread inflation differential

Great Moderation Stability period Great Recession Whatever it takes

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Rome Mistakes III

• Squandering the macroeconomic bonus
• Unemployment and economic growth in Italy. 1960-2018.
• 10
• 5

5 10 15 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

%

Growth of GDP per capita Unemployment rate

Pre € €

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Frankfurt/Brussels mistakes I

• ECB interest rate increases 2011
• A surprising move
• Effective Federal Fund Rate and MRO rate. 2008 –2015.

0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 2008 2009 2010 2011 2012 2013 2014 2015

%

EFFR MRO

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Frankfurt/Brussels mistakes I

• With difficult to find motivations
• With hindsight
• With real-time information

14

Frankfurt/Brussels mistakes II

• Euro-area fiscal policy 2011-2014
• A Diamond-Dybvig interpretation
• Liquidity and solvency
• An aggregate countercyclical fiscal policy

15

Frankfurt/Brussels mistakes II

• And instead
• Just coinciding with a serious recession
• Output gap in the euro area, 2010-2019.
• 4
• 3
• 2
• 1

1 2 2010 2011 2012 2013 2014 2015 2016 2017 2018* 2019*

%

European Commission IMF - WEO OECD

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Frankfurt/Brussels mistakes II

• And instead
• A strong pro-cyclical fiscal policy
• 4.0
• 3.0
• 2.0
• 1.0

0.0 1.0 2.0

• 1.0
• 0.5

0.0 0.5 1.0 1.5 2.0 2011 2012 2013 2014 2015 2016 2017 2018 2019

% potential GDP % potential GDP

SPB OG

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Frankfurt/Brussels mistakes III

• German current account 2000-2018
• Exceptionally high and persistent
• Too high and persistent, according to the IMF and the EU

Commission

• Caused by too low investment and too low wages
• An insouciant attitude?

18

Symmetric mistakes

• Two unanswered questions
• Genuine mistakes or something else?
• Worse South or North of the Alps?

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Setting in the Alps, or maybe in Finland

• My Alpine/Suomi tenets:
• Insufficient (excessive) demand should be countered by

countercyclical policies

• Histeresis and super histeresis can make recessions very

damaging

• Shifts from “good” to “bad” equilibria require liquidity and

solvency measures

• Sustainable fiscal policies and stability oriented monetary

policy favour growth and welfare

• Long term growth and welfare depend on appropriate

structural policies

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Conclusions

• Are my tenets trivial or unattainable? Or both?
• Will we be able not to repeat the same old mistakes?

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Lower real rates as macroeconomic bonus

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