Bank of Latvia and the European Central Bank – an interesting 2020 awaits

… at least if you are interested in monetary policy. Others may be excused although it is far from mundane what may happen at the European Central Bank (ECB) level in 2020.

The ECB has a new governor, Christine Lagarde, ex-IMF chief and ex-finance minister of France, seemingly much more of a dove than the front runner for the post just over a year ago, Jens Weidmann, head of the German Bundesbank. Now former governor, Mario Draghi saw significant disagreements at the ECB concerning the renewed Quantitative Easing (QE) programme with e.g. the Estonian governor being skeptical while the Latvian and Lithuanian governors backed Draghi’s line. Criticism of the ECB’s Quantitative Easing policy also came from a bunch of monetary policy heavyweights from Germany (obviously) and elsewhere. So, a 2020 with much more disagreement than usual seems to await us.

And into this arena steps Mārtiņš Kazāks, the new governor of the Bank of Latvia from 21 December 2019, who will then have to put his hand into the hornet’s nest in 2020 when he will be part of the ECB Governing Board.

Many issues have surfaced/may surface; here just a few:

1) QE was introduced in 2015 and re-introduced in the last days of Mr Draghi’s reign but how effective is it? Some argue that it just gives life support for debt-burdened southern Euro countries. It certainly does not seem to help economic growth there. Figure 1 shows the EU countries where they were in 2010 at the end of the financial crisis against their productivity growth (growth per employed person at constant prices) following the crisis and thus helped (or not) by low interest rates. The distinction between north and south is, well, distinct. It is not low interest rates that will help the south, it is economic reform. Italy and Greece even remain less productive than ten years ago; economic failure is a reasonable word for that.

Figure 1: Productivity growth 2010 – 2018 vs. GDP per capita in 2010, EU 28 minus Ireland and Luxembourg

Source: Eurostat and own calculations

Note: Ireland and Luxembourg excluded due to their somewhat misleading GDP numbers

2) And QE keeps stirring the German mood at the ECB – the past three German Governing Council members Jürgen Stark (resigned 2011), Jörg Asmussen (resigned 2014) and Sabine Lautenschläger (resigned 2019) all quit before their eight-year terms were up as protest against ECB policy in this context.

3) A network, the New Hanseatic League, comprising the Netherlands, Ireland, Denmark, Sweden, Finland, Estonia, Latvia and Lithuania has been formed to strengthen ECB rules and the Single Market (read: Protest against a lax attitude in the south).

4) Even Sweden may have gotten cold feet regarding negative interest rates and may abandon that policy this week.

5) And other criticism against QE and/or negative rates have come forward recently: Keeps zombie companies alive with very low interest rates and puts unnecessary strain on the earnings potential of banks.

In short, expect an interesting 2020, for the ECB as well as Latvia’s part in this.

 

Morten Hansen is Head of Economics Department at Stockholm School of Economics in Riga and a member of the Fiscal Discipline Council of Latvia

Points of view expressed here are not necessarily those of the Fiscal Discipline Council