Credibility for the inflation target a binding restriction One condition for a central bank to be able to use the policy rate to counteract financial imbalances is that confidence in the inflation target is solidly established and that inflation expectations are firmly anchored around the target. This is a very important condition and I would claim that it is a binding restriction, that is, if it is not met, the central bank will have no scope to take other considerations. When the Riksbank gave consideration in its monetary policy decisions to the risks linked to indebtedness and housing prices rising too fast a few years ago there were no reasons to question confidence in the inflation target. It was firmly established and long-term inflation expectations were just over 2 per cent. However, what has happened since then is that the Riksbank and other analysts have on several occasions been surprised by inflation being lower than expected and have therefore been forced to gradually revise down their inflation forecasts. As the period with an inflation rate undershooting the target has become longer, economic agents have adjusted their inflation expectations downwards. During 2013 and 2014, for instance, the five-year inflation expectations in Prospera’s survey showed more or less a falling trend to just under 2 per cent. The further long-term expectations deviate from the target, and the larger the deviation, the greater is the risk that the inflation target will begin to lose its role as benchmark for pricesetting and wage formation.
Some have had to implement austerity plans and others, less drastically, are undertaking structural reforms and continuing to reduce their government deficits. This is the case of France. Even if these efforts appear moderate compared to those of other countries, they are necessary for our market credibility. Brussels has presented its proposals for a European bank supervisory mechanism; are they in line with your expectations? Yes, they are. The developments of the financial crisis have brought to light one of the euro area’s fragilities: the link between bank and sovereign risk. Following the collapse of Lehman Brothers, governments bailed out their banking systems and, in doing so, established a nexus between sovereign debt and local banking systems, which interferes with monetary policy transmission. When the euro area sovereign debt crisis erupted, bank refinancing conditions became correlated with sovereign risk, with the consequences that we have witnessed for ailing countries. The large amount of liquidity provided by the Eurosystem has reduced this impact, but funding costs have remained very high in some countries. It was therefore essential to decouple sovereign risk from bank risk. The banking union will ensure a sounder monetary union. Germany has expressed doubts as to the proposed set-up, in particular with respect to the number of banks covered by the ECB. Could this prove a threat going forward? The proposed union implies a transfer of sovereignty from States to the ECB, which Germany has always wished for.