Olli Rehn, the governor of Finland’s central bank, visited Athens Friday to take part in a conference organized by the Bank of Greece. Rehn, a familiar face in Greece from his time as European commissioner for economic and monetary affairs during Greece’s first and second bailout, responded to questions from Kathimerini on the Italian crisis, the prospects of the Greek economy, and why the Greek crisis lasted as long as it did.
How concerned are you about the situation in Italy? Could it lead to another systemic crisis for the eurozone?
The planned deterioration of the general government structural balance will have negative implications for the long-term sustainability of public debt. Italy, together with European institutions, must work to avoid bad outcomes, but keeping in mind that Italy is primarily liable for the sustainability of its public finances. The rules are the same for everybody in the euro area.
Have deficit rules been enforced fairly in the eurozone or have certain bigger countries received more lenient treatment?
Overall, the enforcement of deficit rules has been fair in the eurozone. Naturally, the size of the member-state is not a decisive factor. It makes a difference whether a member-state is in the preventive or the corrective arm of the Stability and Growth Pact, or whether it is in an adjustment program. In the first case a member-state has more flexibility and fiscal space than in the other two cases.
Last month, European Central Bank President Mario Draghi spoke about the need for a fiscal stabilization tool to aid member-states in times of crisis. Do you agree?
The last 10 years have demonstrated the need to strengthen the monetary union. A lot has been done already, and several further measures have been proposed. A fiscal stabilization tool of some sort is one of them. As such, tools that could effectively reduce instability in economic developments in euro-area economies would be useful. Obviously, the primary responsibility regarding fiscal support for the economy rests with national policy makers. In good times, they need to build a fiscal buffer for bad times.
Currently, the European Stability Mechanism is a vehicle for supporting individual member-states in trouble. Regarding common fiscal stabilization tools, an important question is whether it is useful to have additional tools that are less stringent in terms of conditionality than an ESM program.
In principle, some sort of an additional fiscal stabilization tool could be useful. However, such tool comes with challenges such as moral hazard and its consistency with the Treaty.
How successful was the ECB during the crisis in pursuing monetary policy that was in the interests of all eurozone members, North and South, and in defending its independence?
Euro-area monetary policy is not conducted by focusing on a single member-state or group of member-states, but the euro area as a whole. This principle is respected when the Governing Council makes decisions during crisis or normal times. Measures such as the Securities Markets Program (and later, the Outright Monetary Transactions program) were necessary to maintain the transmission of monetary policy throughout the euro area. It did not compromise the independence of the ECB in any way.
Why did the Greek crisis last so long? Was it a mistake not to allow for the upfront restructuring of its debt, leading to unrealistic fiscal targets in the first program?
The general government balance had been strongly negative for 30 years prior to the crisis in Greece (the average is about -7 percent of gross domestic product). Moreover, the statistics of general government were distorted before the crisis. As a result, the imbalance in the public finances was large and somewhat unexpected, which led to a severe crisis. Moreover, structural reforms take some time to implement, and, furthermore, benefits of these reforms come with a significant lag.
Not least because of the statistical falsification, virtually everybody underestimated the depth of the crisis at the outset, both in Greece and in the European Union. It took too long to convince policy makers to act. More rapid action to stabilize the situation would have been less damaging and less costly for everybody. Also, the EU-wide crisis management mechanisms were underdeveloped at the time. Now we have the ESM, the Single Supervisory Mechanism and the resolution mechanism for banks.
Many of us – me included – underestimated the entrenched resistance to economic reforms that can open up the formidable entrepreneurial dynamism and human creativity of Greece. The first program, 2010-11, had a strong focus on growth-enhancing reforms, it wasn’t just about fiscal consolidation; but there was not enough of a national consensus in support of them.
Are you confident about Greece’s growth prospects and the sustainability of its debt? Does the recent market turbulence show that the gradualist approach to the nonperforming loan problem of the Greek banks is not working?
First of all, the structure of the Greek economy has improved during the programs. However, it is still important to continue implementing structural reforms. For example, the pension system is still one of the most expensive in Europe.
Despite significant progress, the Greek public debt level is still high. The June 21 Eurogroup agreement provides Greece more time to implement the necessary reforms and get the economy back on track: Increases in employment and in tax revenue will make debt obligations more tolerable to serve. The Eurogroup will review whether additional debt measures are needed in 2032.
During the ongoing program to strengthen the Greek banking system, Greek banks have made clear progress on improving their capital and liquidity position. Banks’ deposits have grown, banks have broadened their market financing and successfully shifted parts of their financing from monetary policy operations onto the interbank repo market.
However, the NPL problem remains and the quality of Greek banks’ capital must be enhanced, as it is lower than elsewhere in Europe, consisting partly of deferred tax assets.
Swift progress in resolving NPLs would increase the capital adequacy of Greek banks and make their market financing less vulnerable to changes in investor sentiment.
You spoke at the International Monetary Fund meetings about the dangers of protectionism. It’s one thing to prevent a rolling back of existing deals, but, given popular opposition, should the EU really be pursuing further trade liberalization?
Free trade among its members was one of the EU’s founding principles, and the EU is committed to liberalizing world trade further. By negotiating agreements and seeking worldwide partnerships, the EU creates growth and jobs for Europeans.
International trade is founded on rules laid out by the World Trade Organization, ensuring that trade agreements and obligations between countries are open and fair. Europe has a very export-dependent economy. The EU has been active in negotiating free trade deals with several important countries recently (Japan, Canada, etc). Europeans should actively promote free trade and restrain further escalations of protectionism.
You are participating in a conference in Athens about central banking in the interwar period. What key lessons should today’s central bankers learn from that period to avoid policies that fail to prevent crises, or prolong them once they happen?
Three main lessons have been learned from the Depression of the early 1930s. First is the paramount importance of international policy cooperation for sustainable growth and employment. In the 1920s and 1930s, it collapsed, which paved the way for fascism, communism and depression. Since World War II we have had international institutions that are more or less capable of policy coordination in economic and monetary affairs to tackle financial crises and protect growth and jobs. Second is that a central bank’s primary responsibility is the maintenance of price stability, to prevent deflation in crises and inflation in boom periods. The third lesson is that the financial industry has a special role in macroeconomic stability. Major upheavals in the financial system can be extremely disruptive to the economy as a whole. Therefore the central bank and other government institutions have a particular obligation to make sure that financial stability is preserved, and that banks and other financial institutions are well managed to ensure that under stress the financial system won’t destabilize the real economy.