AMSTERDAM, March 6 (Reuters) – The following is the text of a Reuters interview with European Central Bank policymaker and Dutch central bank chief Olaf Sleijpen.
For an interview story, click here.
Q: A few weeks ago you described the current environment as a central banker’s nirvana. How is the war in the Middle East impacting this?
A: Obviously, things have changed. Are we still in the nirvana or has that been displaced? When I made that comment, I also made clear there were lots of risks. We have seen one of those risks materializing over the last five days or so. Given that we’re only talking about days still, it is too early to say what this will mean for the economy or monetary policy in the long run.
However, what you’re seeing in terms of market reaction seems to be more or less aligned with what you would expect in an economics textbook.
While I would not use the word nirvana or Goldilocks anymore, I haven’t dramatically changed my view on where we are, which is still a good place.
We are truly data dependent. So, it depends on how things will develop and how we are going to assess those developments going forward.
Q: So, you’re saying we’re not in a dramatically different place now?
A: In my view, that’s where I still am, but everything depends on how this conflict will develop.
Q: After Russia attacked Ukraine, the ECB produced several scenarios in its economic projections. Is that the way to go again?
A: All projections contain a sensitivity analysis, so it’s part of the exercise. I haven’t seen the March projections yet but I might very well imagine a sensitive analysis or scenarios being part of the documentation.
Q: Some of your colleagues have said that no matter what, March is too early to change policy. Do you share that view?
A: I just said where I stand: I’m still in the good place, so, yes.
Q: An oil price shock raises inflation but weighs on growth, which has a disinflationary impact. How do you balance these two factors?
A: That very much depends on what are the scenarios that we’re talking about. There’s also a third factor here, which is the exchange rate, as we’ve seen a dollar appreciation lately.
So, I think you have to take all those factors into account. And it also very much depends again how things evolve, to what extent there will also be serious disruption to supply chains, etc. In some scenarios the inflation impact is going to be large and in other scenarios the growth hit is going to be quite large.
Q: How long would you need to have a clearer picture.
A: If you would put what we have been seeing the last 4 or 5 days in a model, then probably the impact on inflation is higher than the impact on growth. But that’s just based on these 4-5 days and only based on models. A model is good, but the picture is always much more complicated. In the end, actual developments count. Maybe there is a deal tomorrow or the day after. Or maybe there is escalation.
Q: What would you need to see to say this is not the good place anymore?
A: It’s a mixture things, not one particular number or indicator moving from, let’s say, green to orange. Clearly inflation expectations are important. But also underlying price indicators are important, and so are projections, including the sensitivity analysis around the projections. There’s not one indicator that would trigger me to change my mind.
Q: What are the lessons of the 2021/22 inflation surge for you for this scenario?
A: First off, let me say we learned our lessons from that episode.
I understand why people are trying to make the comparison with 2021/2022. But we should be quite careful in making such comparison because the situation is different.
The nature of the shock is different. Monetary policy is in a neutral setting now, which wasn’t the case back then. There was also the reopening of the economy after the pandemic, in combination with accommodating fiscal policies, pushing up demand. So even before the supply shock, underlying inflation was already building up from the demand side.
One of the lessons of that period is that we need to be aware of the risks around supply side shocks. They are difficult to manage from a monetary policy point of view and may have an impact on inflationary dynamics at a certain point, where the central bank has to react. This is an important lesson.
But as I said, we should be careful in making these comparisons because we are clearly not in the same situation.
Q: Markets are now pricing a small chance of a rate hike this year. Do you think that’s premature? Do you think markets are getting ahead of themselves?
A: I honestly don’t know. It very much depends on how things will unfold.
Q: Domestic inflation is sill high and services inflation accelerated last month. How concerning is that?
A: It’s somewhat puzzling because wage inflation is coming down. We have seen a number of adjustments in the way the inflation numbers are being calculated, particularly with regard to package holidays, and that might play a role.
But if you look at wage inflation, the picture doesn’t completely add up.
Q: Were you comfortable with the pre-war baseline of projections showing modest undershooting?
A: If we go back a week, I would have said that I’m pretty comfortable with the baseline scenario. Also because inflationary expectations were quite well anchored at 2%. The undershooting was also not substantial.
You will now ask me what substantial is, then. I wouldn’t want to put a number on that.
Q: Your strategy stipulates modest, temporary deviations from target are acceptable in both directions. Then surely this also applies if there is a moderate overshooting because of oil prices now?
A: Exactly. We should be consistent and we are symmetrical. We do not put a higher weight on either under or overshooting.
Q: What is temporary then?
A: Monetary Policy is not a science, it’s an art. There are no specific criteria to determine what is temporary. We’ll be looking at several items and we would debate it in the Council. There might be a point where we see a deviation from the target that makes us a bit more uncomfortable. But it’s not going to be down to one factor of one particular indicator.
Q: Do you remain comfortable with what you’re seeing in the exchange rate?
A: The exchange rate is an outcome of economic and financial market dynamics. At the same time, we take it into account when we set monetary policy because it has an impact on inflation. We do not have an exchange rate target but it’s one of the factors we take into account. Nothing less, nothing more.
Q: Growth has been more resilient than many had expected. Are you also surprised?
A: Yes, I belong to this group. The euro zone, like the Dutch economy performed quite well compared to what we expected a year ago. I did not expect the economy to be this resilient to uncertainty around tariffs. The rate of growth is nothing to celebrate but that is more related to the fact that the potential growth rate is low, which is not something monetary policy can solve.
Resilience is a combination of three things.
Models, like during COVID, are based on past relations between economic variables. They tend to underestimate the agility and behavioural effects of the economy. We saw the same at the beginning of the pandemic, when all our forecasts were doom and gloom. We then had to revise them upward several times because we did not really capture that households and businesses find a way to do what they have to do.
Another thing is, we saw something very interesting happening in trade. Companies anticipated what might happen and acted on that well in advance of Liberation Day.
The third factor is that the effect of tariffs on the economy takes time to be felt. Like for monetary policy, there is a time lag in the transmission of trade policies. That effect may still be in the pipeline.
The key conclusion from these three factors is that the environment may still change because the economy is adjusting. This is why you can’t just look at the models and must remain pragmatic.
So, the fact that growth has been resilient in a very difficult year, especially in the area of trade policy, doesn’t necessarily mean that it will always stay this way.
A CEO here in the Netherlands once told me that ‘uncertainty is something I dislike even more than the tariffs’. You may dislike tariffs, you may think it’s a bad policy, but at least you know what’s going to happen. But if there’s a constant flux and there’s policy uncertainty, it makes life very difficult for planning and investments.
Q: Tariffs also raise questions about Europe’s relationship with the U.S.. Europe for example relies on the U.S. for dollar liquidity in times of stress. Do you think the ECB should explore new options for dollar liquidity?
A: I have a lot of trust in our relationship with the Fed’ s current leadership when it comes to this particular arrangement. And I also have similar trust in its future leadership.
We meet every two months in Basel and have open, frank discussions. More importantly, it is in the interest of the United States to maintain this arrangement. But I think that’s very well understood.
Q: What about your gold holding at the Fed? Are you reviewing that?
A: We hold part of our gold reserves at the Federal Reserve Bank in New York, in the Manhattan rocks, so to speak. I’m fully confident in this arrangement. We have a good relationship and a clear contractual agreement. We always think about our gold strategy, obviously. But there’s no reason at this point in time to change that strategy
Q: Given years of losses at DNB, do you think there is a risk that the central bank will need to be recapitalised?
A: We present our annual report in two weeks and I don’t want to pre-empt that. Our view has been that the probability of such a scenario was low and has become lower, though we can’t exclude that equity will become negative. Rebuilding financial buffers will take some time. We also have an agreement with the Ministry of Finance that we will rebuild buffers before we start paying dividends again.
