G. Stournaras: Interest rates at their zenith, Greece is a pleasant surprise

The Greek economy has not only overcome the crisis but has managed to solve many of the past problems that led to it, although there are still some minor issues that should be resolved, as the governor stressed Bank of GreeceK. Giannis Stournarasin an interview with the German newspaper Handelsblatt.

As he underlined, referring to the Greek economy: “We have overcome the crisis, in the sense that the macroeconomic fundamentals are much more stable and balanced today. If you will allow me, we have solved the primary problems of the past that led to the crisis or were a consequence of the crisis, such as very high debt refinancing needs, high fiscal deficits, financial stability issues, bank recapitalization, and now we have to solve some, we will I was saying secondary problems, such as the efficient functioning of the state, delays in the administration of justice, the quality of infrastructure».

Regarding monetary policy, Mr. Stournaras noted that it has so far achieved its goal of reducing inflationary pressures, while reiterating its opposition to hastening the reinvestment of bonds purchased through the PPP program. He also estimated that the interest rates have now reached their highest level, while in order to reduce them, inflation will have to be kept below the target for a very long time.

At the same time, its commander TtE underlines that the Israel-Hamas war conflict is another source of uncertainty for the economy as well as for inflation, especially if it affects the oil market and drives the valuations of the black gold higher.

THE interview of the commander of the CoE:

• Ultimately the Board decided to keep interest rates unchanged. Why;

First of all, we have already done a lot of tightening. Today, very restrictive conditions have been created, from whatever point of view we look at it, whether we are talking about the level of interest rates, bond yields, financial conditions for households and businesses or whether we are talking about bank lending rates.

• Also, deflation is progressing smoothly.

Yes. So far, the downward trend in inflation is in line with our expectations. But the economy is much weaker than we thought in September. This is the main difference compared to the previous session. Financial conditions are also slightly more unfavorable than we expected.

• An additional and important difference: The decision to hold off on rate hikes was unanimous.

Yes, it was an easy conversation. And we highlighted the new source of uncertainty: the conflict in the Middle East.

• What role did this conflict play in your discussions?

Very important role. The level of uncertainty on the supply side is very high. This contributed to our decision to be more cautious.

• This uncertainty comes to add to an already uncertain period. How does this conflict affect the euro area economy and financial markets?

We see that the financial markets and the energy market have reacted, but not very strongly. The problem is that we don’t know what is going to happen, how many countries will be involved. I have seen enough crises in my life and experienced their consequences to be able to know this: Right now the markets are just waiting. They pause. For us, the Governing Council of the ECB, this is a source of high uncertainty.

• Fear the potential market reaction, e.g. possible increase in oil prices?

Certainly. We know that a major crisis in the Middle East involving oil-producing countries will have a serious impact on energy markets, potentially causing inflationary pressures in the short term. In the medium term, however, there is a risk of economic stagnation, not to mention the waves of refugees to Europe. This situation is indeed dangerous.

• So are you afraid of a domino effect?

Something like this can happen. The conflict is already having tragic and dramatic effects on people’s lives. It can have similar effects on the economy.

• Given these uncertainties, let me ask you the million dollar question: Are interest rates at an all-time high?

I can tell you my personal opinion: I think so. I don’t know if this is also the opinion of the majority of the Governing Council of the ECB, because we have not discussed it yet. Perhaps we will discuss this at our next meetings in 2024.

• And the next question is what is your personal view on when interest rates will come down or when they can come down.

With the added uncertainty due to the conflict in the Middle East, it is even more difficult to answer, Again in my personal view, I would start thinking about cutting rates if inflation in mid-2024 falls below the 3% mark on a permanent and sustainable basis.

• How many of your colleagues agree with this view?

I hope many. But we haven’t discussed it yet.

• High interest rates and low growth in the eurozone – is the ECB with its monetary policy driving the eurozone into recession?

The ECB has so far done well, in the sense that inflation has fallen significantly without its policy having a widespread adverse effect on the economy. Our primary goal is price stability, but that doesn’t mean we ignore real economic activity, unemployment, and financial stability. We have to take all these factors into account as well, and judging by the result, it looks like we didn’t do too badly. Especially considering that the Eurozone is a net importer of energy and was hit hard by the adverse change in the terms of trade last year.

• How big is the risk of over-tightening?

We have already done a lot of tightening. As I mentioned above, whichever way we look at it, limiting conditions prevail.

• You seem to be opposed to faster shrinking of the Eurosystem’s balance sheet.

If I am not mistaken, the rate of reduction in the size of the Eurosystem’s balance sheet is the highest among major central banks worldwide. And it continues in that direction, through the repayment of the TLTROs and the repayments of the APP. Why accelerate this pace at a time when global economic uncertainty has increased?

• There has recently been a sharp rise in bond yields, both in the dollar area and in the eurozone. Does this development create a new risk to financial stability?

We know that very well. Most of the yield increases come from the United States. We have estimated that the “pass-through” of tightening from the US to Europe due to this effect is around 20-25 basis points. Therefore, the impact on Europe of tightening in the US is large and may lead to further reductions in output and employment. We are concerned about this rise in yields, all the more so if the main cause is not inflation (which it doesn’t appear to be) or faster growth, but mainly adverse fiscal developments.

• Are rising yields helping to transmit your monetary policy by making financial conditions tighter?

This rise contributes to more restrictive monetary, financial and macroeconomic conditions.

• Do you think there is a refinancing risk for some member states?

As debt refinancing costs increase, debt sustainability becomes more difficult. However, the difference between the nominal growth rate and the indirect interest rate of public debt (snowball effect) is still favorable for most member states.

• Are you worried about Greece?

Greece is a pleasant surprise as debt refinancing needs are small, the impact of the growth-interest rate differential is very favorable and there are primary fiscal surpluses. We deserve to sleep peacefully at night, especially after what we have suffered in the past!

• And Italy? Its public debt is very high, the deficit exceeds forecasts, the yield on the 10-year Italian government bond is close to 5%.

Given the painful lessons from the Greek sovereign debt crisis and the UK’s fiscal misadventures last year, I’m sure Italy won’t want to take any chances. We are all wiser today, given the experience of the past.

• This is yet another argument for no further tightening.

This is yet another argument in favor of moving forward with careful steps, because financial stability also falls within our remit. If we do not have financial stability, the transmission of monetary policy is not smooth enough.

• The ECB has created a tool, the TPI, to compensate for unwanted and disorderly developments in the markets. Will we soon see it being used for the first time?

As a first line of defence, we have the reinvestment of securities under the PEPP scheme and the potential flexibility of that scheme.

• You mean the program you planned at the beginning of the pandemic. Based on the current programming, reinvest in full the amounts from the redemption of program securities until the end of 2024.

Correctly. We have not used the program’s flexibility for over a year (flexibility means using part of the maturing securities of one member state and investing in another member state). So I don’t think we need to enable TRI.

• Let’s return to Greece for a moment. Has the country definitively overcome the crisis?

Yes. Beyond the favorable economic and fiscal developments, it seems that the Greek people have decided to reject populism. The truth is that we were the first to embrace populism, but we were also the first to renounce it. Today there is a clear political horizon. The Greek people seem to value fiscal and financial stability much more than in the recent past.

• However, the economy is still far from pre-crisis levels.

Yes indeed. The adverse initial macroeconomic and fiscal conditions that led to the crisis required a fairly large adjustment effort, which affected GDP. Don’t forget that we had twin deficits, each of the order of 15% of GDP. In Greece, too, there have been delays and setbacks in the implementation of the necessary measures. However, recent years have seen continued progress on all fronts and rapid convergence towards the per capita income of the euro area countries, alongside rapid fiscal adjustment.

• In this sense, the crisis is not completely over, but we are still dealing with its consequences.

We have overcome the crisis, in the sense that the macroeconomic fundamentals are much more stable and balanced today. If you will allow me, we have solved the primary problems of the past that led to the crisis or were a consequence of the crisis, such as very high debt refinancing needs, high fiscal deficits, financial stability issues, bank recapitalization, and now we have to solve some, we will I was saying secondary problems, such as the efficient functioning of the state, delays in the administration of justice, the quality of infrastructure.