This argument reverses the conventional reasoning: Monetary policy would then no longer affect inflation by influencing demand and inflation expectations, but by affecting interest expenditure – the higher the interest rate and interest costs, the higher the inflation rate. I find this way of reasoning unconvincing. It would mean that central banks would in future have to act in a completely new way, which is not supported in either economic theory or practical experience. It can also be noted that this argument was not put forward during the period when inflation was low – that is, that the Riksbank would then have needed to raise the interest rate in order to raise household interest costs and ultimately inflation. Temporary break from the low-inflation environment rather than lasting change? Before continuing, I would like to stress that, although much has happened in a short space of time, this does not change the conclusion in my speech a year ago – that fiscal policy and monetary policy need to interact in a better way than has been the case in recent decades. My reasoning then was based on the fact that the policy rate had for a long time been at, or very close to, its effective lower bound – a bound below which it is not possible to reduce the rate further or where the negative side-effects of doing so risk being very large.
This is why the Banco de España opted, in its publication on 20 April, to prepare several alternative scenarios using different analytical tools.2 In any of the scenarios considered, confinement would translate into a very severe contraction in Spanish GDP in 2020, all the greater the longer the period during which it is necessary to retain the restrictions on economic activity, and with greater risks that the 2  See Banco de España (2020), “Reference macroeconomic scenarios for the Spanish economy after Covid-19”, Analytical Articles, Economic Bulletin, 2/2020. 11  liquidity problems many economic agents are currently facing will lead to situations of insolvency. Looking ahead to next year, these scenarios outline a recovery in activity and employment which, nonetheless, would be insufficient for GDP to attain its pre-COVID-19 trend level. Specifically, in the two scenarios recently published by the Banco de España that seem most realistic at present, having ruled out the third which projected a shorter and more moderate recession, GDP is expected to fall by 9.5% and 12.4%, respectively, in 2020 (and post subsequent increases of 6.1% and 8.5% in 2021).3 The figures in the first of these scenarios do not differ significantly from those reported by other national and supranational institutions, public and private alike. Thus, for example, the Spanish Government, the International Monetary Fund (IMF) and the European Commission have recently projected declines in our economy of 9.2%, 8% and 9.4% for 2020, respectively.