Euro Area Monetary Policy: Consequences for Emerging Europe

Friday, May 13

Gilles Noblet, European Central Bank
Mario Holzner, The Vienna Institute for International Economic Studies
Mislav Brkić, Croatian National Bank
Martin Feldkircher, Oesterreichische Nationalbank

Franz Nauschnigg, Oesterreichische Nationalbank

In recent years, the European Central Bank (ECB) has significantly loosened monetary policy in the euro area. What are the consequences for its neighbors? What are the main channels for the spillovers, and what are the main risks? A panel discussion on these issues took place at the Joint Vienna Institute on May 13, 2016. Chaired by Franz Nauschnigg from the Oesterreichische Nationalbank (OeNB), the panel consisted of Gilles Noblet, ECB; Mario Holzner, Vienna Institute for International Economic Studies; Mislav Brkić, Croatian National Bank; and Martin Feldkircher, OeNB.

In Mr. Noblet’s opinion, so far most spillovers from the euro area to Emerging Europe, in particular the Western Balkans, have been positive. Two main channels were in action. The real economic channel functioned through the close trade links between the two regions, producing higher demand for Emerging Europe’s exports in the slowly recovering euro area. The financial channel acted through increased liquidity at euro area banks, producing larger capital inflows and higher prices for financial assets in neighboring destinations.

Turning to EU accession prospects for candidates and potential candidates, Mr. Noblet recommended that these countries adopt five policies:

  1. Adopt comprehensive strategies for resolving non-performing loans in order to mitigate financial stability risks and reignite real credit growth;
  2. Enhance the analytical and policy tools of central banks;
  3. Promote the use of local currencies;
  4. Anchor fiscal policy credibly by, for example, stabilizing public debt; and
  5. Improve institutions and the business environment.

Mr. Holzner agreed with Mr. Noblet that geographical proximity to the euro area made Emerging Europe a beneficiary of the ECB’s loose monetary policy. As the main challenge for these countries, he identified the gradual appreciation of their real exchange rates, which is not easy to correct afterwards, especially in countries with fixed exchange rate regimes, and cited Austria since the 1970s as an example of successful policies in similar circumstances. For a long time Austria managed to both keep its exchange rate fixed and target inflation through direct regulation of prices and wages. Hence, the related policy recommendation is to improve the relationship between employers and employees.

Mr. Brkić indicated that both real economy and financial transmission channels were at work in Croatia. In 2015 alone, he noted, Croatia registered double-digit growth of exports to the euro area. At the same time, prompted by higher demand for its securities and despite relatively large fiscal imbalances, the Croatian government was able to issue bonds at historically low rates. Mr. Brkić added that the risks posed by the prolonged monetary easing in the euro area are not likely to be high in Emerging Europe. The region does not seem to attract large speculative and potentially volatile portfolio flows.

Mr. Feldkircher summarized the econometric research on the topic, including some of his own research. He concluded from this review that recent ECB monetary policy measures have indeed had positive, though heterogeneous, spillovers on Emerging Europe. A quantitative easing shock leads to a significant increase in industrial production but leaves inflation virtually unchanged. The main channel is financial: long-term interest rates go down, and equity prices go up.   

The panel discussion was followed by a lively question and answer session. One question concerned the effect of the EU banking union on financial stability in non-participating countries. Mr. Nauschnigg noted that it is hard to say whether the observed deleveraging is caused by the creation of the union or by domestic policies. Mr. Noblet responded that, given the large presence of EU banks in Emerging Europe, the effect of the union could be substantial. He added that to mitigate any adverse developments, and besides cooperation between micro-prudential supervisors, the ECB has engaged in an annual dialogue on macro-financial stability with national authorities. Another question related to the incentives for governments in Emerging Europe to pursue needed fiscal consolidation when interest rates are low. Mr. Brkić admitted that low interest rates are indeed a disincentive. Mr. Noblet added that by easing monetary policy, central banks fulfill their mandate, but governments must do their homework, too.

Maksym Ivanyna, Economist, JVI

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