In normal times, central banks cut their key rates, and this passes through to the yield curve. However, in order to deal with the financial crisis, the ECB like other central banks have brought their key interest rates to very low levels, around zero. This means that our traditional monetary policy tools had to be supplemented by other instruments, known as non-standard instruments, in order to reach our prices stability objective. I will return to this point later. b) What is more with regard to the challenges we currently face, these deflationary pressures create the risk of an unanchoring of expectations, which would make it harder for us to achieve our 2% target again. Indeed, if inflation stayed too low for too long, economic agents may revise downwards their inflation expectations, which would create second round effects. Lower inflation expectations influence economic agents’ price- and wage-setting behaviour, which in turn keeps inflation low. It can even raise the risk of deflation, defined as a cumulative process of falling prices, including those of assets, or even wages and production, as the world economy experienced in the 1930s or Japan partially underwent in the 1990s. Such deflationary dynamics are not at play today. But this risk is the BIS central bankers’ speeches  1  reason why our inflation target is symmetrical. We consider too low inflation to be just as costly as too high inflation. And, therefore, it is more risky for central banks to act too late than too early.
Prior to the decisions made in March and in the weeks that followed, the Monetary Policy and Financial Stability Committee met frequently, often at short notice. On 12 March, we decided to cut the policy rate by 0.50 percentage point. The countercyclical capital buffer requirement was reduced the day after, helping banks to absorb losses and still have the capacity to provide credit. A week later, we reduced the rate further to 0.25 percent. And at the May monetary policy meeting, we took a step further and reduced the policy rate to zero. The Committee also stated that in its current assessment of the outlook for the economy and the balance of risks, the policy rate would most likely remain at today’s level for some time ahead. With a policy rate close to zero, there is a limit to how much further it can be lowered. Other 2/4  BIS central bankers' speeches  countries have experienced that policy rates can continue to have an impact at slightly below zero, but it is uncertain how negative rates will influence the economy and financial markets, particularly in the current situation. The Committee stated at the monetary policy meeting in May that it is now of particular importance to ensure well-functioning financial markets. The Committee does not envisage making further policy rate cuts. Low interest rates cannot prevent a severe downturn, but can help dampen the decline in activity.