occasional papers no. 13 · source: eurostat, european commission, autumn forecast 2014; bpm6...

Occasional PapersNo. 13

March 2015

N o t e

The views expressed in this paper are those of the author and do not necessarily reflect the views of the National Bank of Romania.

All rights reserved.Reproduction for educational and non-commercial purposes is permitted provided that the source is acknowledged.

ISSN 1584-0867 (online)ISSN 1584-0867 (e-Pub)

A CENTRAL BANK’S DILEMMAS IN HIGHLY UNCERTAIN TIMES – A ROMANIAN VIEW

Daniel Dăianu*1

*1 DanielDăianuisprofessorofeconomicsattheNationalSchoolofPoliticalandAdministrativeStudies(SNSPA),Bucharest,andaMemberoftheBoardoftheNationalBankofRomania.Theviewsexpressedinthispaperarehisownanddonotrepresentnecessarilythepositionoftheinstitutionsheisaffiliatedwith.ThistextisbasedonapresentationmadeattheConferenceonEuropeanIntegrationoftheOENB(theCentralBankofAustria),Vienna,24November, 2014.The author thanksAdrianAlter (IMFand theUniversityofKonstanz),CosminaAmariei(CEPS-Brussels),ValentinLazea(NBR)andLaurianLungu(CardiffBusinessSchool)fortheircomments;itgoeswithoutsayingthathebearssoleresponsabilityforthispaper.TheauthorthanksalsoAmaliaFugaruandCristianStanicaforassistanceinthetechnicalprocessingofdata.

Abstract....................................................................................................................7

1.Introduction..........................................................................................................9

2.Romania:Hugecorrectionofimbalancesinahighly unfavorableenvironment.....................................................................................9

3.Oldervintagepolicyissues/dilemmas..............................................................12

4.Recentvintagedilemmas:anewage?...............................................................17

4.1.Theoverallenvironment:cognitionandpolicies........................................17

4.2.Dilemmasofrecentvintage:thedomesticcontext.....................................19

4.3.Thewidercontext......................................................................................24

5.Finalremarks.....................................................................................................26

References..............................................................................................................27

Contents

Abstract

ThispaperlooksatpolicydilemmastheNationalBankofRomaniahasfacedovertheyears,withtheanalysisframedinaEuropeanandhistoricalcontext.Someofthesedilemmasareofanoldervintage,suchashowtodealwithmassivecapitalflows,howtocombathighinflationwhenresourcemisallocationisaveryburdensomelegacyandexpectationsofhighinflationarewellentrenched.Otherdilemmasareprettynew,orhavegotsalienceduring theGreat Recession.Romaniahashad toundertakeapainfulcorrectionof its largemacroeconomic imbalances.“Light” inflationtargetinghasprovidedleewayformitigatingthefalloutfromthefinancialcrisis,althoughhigheuroizationhasdenteditsefficacy.Thespecterofstagnationintheeuroarea,financialdeleveraging,unconventionalpolicieswhicharepursuedbykeycentralbanks,theongoingreformofbankingregulationandsupervision,agrowingshadowbanking,howwilltheBankingUnionevolve,etc.,makeupaverycomplicatedEuropeancontextandposearangeofbigchallengesforthecentralbanksofNewMemberStates(NMSs).

Keywords:centralbank,credit,deflation,dilemma,euroarea,EuropeanUnion,financialcycle, financialstability,macroprudentialpolicy,stagnation.

JEL classification codes:E44,E51,E58,F36,F45,G01,G28

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National Bank of Romania Occasional Papers, March 2015

1. Introduction

ThispaperlooksatpolicydilemmastheRomaniancentralbank(TheNationalBankofRomania/NBR)has facedover theyears,with theanalysis framed inaEuropeanandhistoricalcontext.Someofthesedilemmasareofanoldervintage,suchashowtodealwithmassivecapitalin-andoutflows,howtocombathighinflationwhenresourcemisallocationisaveryburdensomelegacyandexpectationsofhighinflationarewellentrenched.Otherdilemmasareprettynew,orhavegotmoresalienceduringtheGreat Recession.Romaniahashadtoundertakeapainfulcorrectionof its large macroeconomic imbalances, under very unfavorable international circumstances. Itsmacroeconomicsituationismuchbetternow,thanwhenthefinancialcrisishitduring2008/2009,butahighlyuncertainEuropeanenvironmentisamajorsourceofconcern.TheNBR’smonetarypolicyarrangements(“light”inflationtargeting)haveprovidedleewayformitigatingthefalloutfrom thefinancialcrisis, althoughhigheuroizationhasdented theirefficacy.For theeasingofmonetarypolicy cannot underestimate thewealth effect and the balance sheet impactwhich asignificantexchangeratedepreciationentails.Thespecterofstagnationintheeuroarea,financialdeleveraging,unconventionalpolicieswhicharepursuedbykeycentralbanks,theongoingreformofbankingregulationandsupervision,agrowingshadowbanking,howwilltheBankingUnionevolve,etc,makeupaverycomplicatedEuropeancontextandposearangeofbigchallengesforthecentralbanksofNewMemberStates(NMSs).

Section1highlightsamajorcorrectionofimbalancesinaneconomythatwaswiththebackagainstthewallinlate2008,whenfinancialmarketsfroze.Section2dealswitholderagedilemmaswhichconfrontedtheNBR.Section3tackles“newage”dilemmasandmakesobservationsonthehighlyuncertainenvironment,theageofdisruptions,inwhichpolicy-makers,centralbankersoperate.

2. Romania: Huge correction of imbalances in a highly unfavorable environment

TheRomanianeconomycannotextricate itselffromthegoodsandbadsof theEUeconomies.The financial crisis hit the Romanian economy very severely, as it did other economies thathadboomedowingtomassivecreditexpansionandexternalborrowing.ThefreezeoffinancialmarketscompelledtheRomanianpolicy-makerstoaskforexternalassistenceinordertofendofftheprospectsofaliquiditycrisisturningintoasolvencycrisis,inspiteofaquitelowpublicdebt.ThecorrectionofexternalanddomesticimbalanceswhichhasbeenachievedisquiteremarkableandismatchedbysimilaradjustmentprocessesinotherNMSs.ButwhileBalticeconomieshadtoundertakeinternaldevaluation(becauseoftheircurrencyboards),Romaniacouldusetheexchangerate,too,asanadjustmenttool.Itneedstobesaidthattheexternalborrowing,whichtookplaceduring2005-2008,wasprimarilydonebytheprivatesectorandwasdrivenbyforeignbanks’soperations inRomania.Thecurrentaccountdeficitwentdownto0.9percentofGDPin2013,fromadoubledigitlevelduring2007-2008(Table1).Theupsurgeofexportsandtheveryfreezeoffinancialmarkets,with theensuing forcedcompressionof imports, explain this turnaround. In2014thedeficititisestimatedtobeevensmaller.

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Therewasalsoamassivecorrectionoffiscalimbalanceduring2010-2013(Figure1),whichwasenabledbytheagreementswiththeEUandIFIs.Inflationstoodat1.6percentattheendof2013andin2014inflationhasgonefurtherdownatabout0.8percent.Economicgrowthisestimatedatcca.2.8percent in2014,from3.5percent in2013(Figure2).It isworthytonoticethat theeconomybouncedbackinpositiveterritoryinspiteofafiscal impulse beingnegativeinthecrisisyearsandinterestratesthatdidnoteaseassomemighthaveexpected.Wewillgetbacktothisissueinsectionthree.Thenegative,pro-cyclical,fiscalimpulsewasentailedbytheneedtocorrectverylargestructuralbudgetdeficits.

Public debt trebled, but it is stabilizing around40percent ofGDP (Figure3).Fed’s taperingofitsstimuluswillarguablyfindRomaniamuchbetterpreparedthanduring2008/2009turbulences,owingtoamajorcorrectionofimbalancesandthe“buffers”ithascreated(forexreservesoftheNBRandthebuffersavailableattheStateTreasury,withthelatteramountingtoabout5monthsofimportsattheendof2014.Table2showthesizeofRomania’soverallexternaldebt,asagainstotherNMSs.

Table 1:Currentaccountbalance(percentofGDP,2007-2015)

2007 2008 2009 2010 2011 2012 2013 2014e 2015f

Romania -13.4 -11.5 -4.5 -4.6 -4.6 -4.5 -0.8 -0.8 -1.2

Bulgaria -24.3 -22.4 -8.6 -1.5 0.1 -0.8 2.6 2.1 2.3

Poland -6.1 -6.5 -3.9 -5.0 -5.2 -3.5 -1.3 -2.0 -2.4

Hungary -7.2 -7.0 -0.8 0.3 0.8 1.9 4.1 4.3 4.3

Source: Eurostat, European Commission, Autumn forecast 2014; BPM6 methodology: Romania, Poland (2011-2015), Hungary GDP – ESA2010

Figure 1:FiscalconsolidationinRomania(percentofGDP,2008-2015)

2008 2009 2010 2011 2012 2013 2014f 2015fROESA95 -5.6 -8.9 -6.6 -5.5 -3.0 -2.2 -2.0 -1.2ROstructural -8.3 -9.6 -6.0 -3.6 -2.5 -1.7 -1.6 -1.0EU28ESA95 -2.4 -6.9 -6.4 -4.5 -4.2 -3.2 -3.0 -2.7

-10

-8

-6

-4

-2

0

NB:RO,EU28(netlending(+)/borrowing(-);RO(Structuralbudgetbalance)

Source: European Commission, Autumn forecast 2014; ESA2010 methodology, official estimates from the Budget Law Report of 2015

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Figure 2: RealGDPgrowthrates(percentyoy,2006-2015)

2006 2007 2008 2009 2010 2011 2012 2013 2014f 2015fGDPRO 8.1 6.9 8.5 -7.1 -0.8 1.1 0.6 3.5 2.8 2.4CEE 6.5 5.5 2.6 -3.7 4.7 5.6 1.4 2.9 2.6 2.8GDPEU28 3.4 3.1 0.5 -4.4 2.1 1.7 -0.4 0.0 1.3 1.5

-9

-6

-3

0

3

6

9

Source: European Commission (AMECO), own calculations (Bulgaria, Croatia, Hungary, Latvia, Lithuania, Former Yugoslav Republic of Macedonia, Montenegro, Poland, Romania, Serbia, Turkey) 2014-2015 Source: European Commission, Autumn forecast 2014, ESA2010 methodology

Figure 3: Romania’spublicdebt

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2006 2007 2008 2009 2010 2011 2012 2013 2014f 2015f

Romania

EU28

CEE

General government consolidated gross debt (percent of GDP)

Source: European Commission (AMECO), own calculations (Bulgaria, Croatia, Hungary, Latvia, Lithuania, Former Yugoslav Republic of Macedonia, Montenegro, Poland, Romania, Serbia, Turkey) 2014-2015: European Commission, Autumn forecast 2014; ESA2010 methodology (data for EU28 is calculated on non-consolidated basis)

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Table 2:Grossexternaldebt*(percentofGDP)

2009 2010 2011 2012 2013 2014 Q2

Romania 68.2 75.1 76.4 74.9 68.8 64.1

Bulgaria 104.8 100.7 90.5 92.1 91.0 89.9

CzechRepublic 49.9 54.7 57.5 60.2 66.3 68.3

Hungary** 174.2 162.1 184.5 160.5 144.9 148.6

Poland 58.7 65.9 71.8 70.1 69.4 69.8

Slovakia 72.9 74.3 76.7 74.9 81.2 87.3

*)Romania,CzechRepublic,Hungary,Poland:accordingtoBPM6methodology **)includingSPE’s

Source: NCBs, own calculations, ESA2010 methodology

3. Older vintage policy issues/dilemmas

SeveralpolicyissueshavedeeplyconcernedRomanianpolicymakersandtheNBR,inparticular,inthepre-crisisyears:“structuralstrain”(howtodealwithmassiveresourcemisallocationwhenpricesarefreedovernight); thepaceoffinancialliberalization;thepersistenceofhighinflation(expectations,moral hazard, the exchange rate pass-through, etc.); and, relatedly, themove to“inflationtargeting”in2005.

“Structural Strain”

“Structural strain” (Dăianu, 1994, 1997) can provide an analogywith overburdenedmonetarypolicyduringthecurrentfinancialandeconomiccrisisinadvancedeconomies.Whenthecommandsystemcollapsedandtherewasadramaticchangeinrelativeprices,manyenterprisesrevealedthemselvesasunprofitableandfacingincreasinglyhardbudgetconstraints.Thesystem,duetoitsrigidities,moreorlessstructural,wasincapableofundergoingmassiveresourcereallocationrapidly. Hencetheneedtosubsidizefirms,andevensectors,whichinvolvedmonetizationofquasi-fiscaldeficits.Moreover,firms themselvescreatedanownpseudo-moneyvia inter-enterprisearrears.Thisquasi-fiscaltaskofcentralbanksduringtheinitialstageofpost-commandtransition,resemblesthe QEs practiced bymajor central banks in advanced economies during the current crisis – asimilarfiscaldominancetakesthecenterstageandblendstwopolicytoolstogether.Whythefiscaldominancenow?Because,duringtheGreatModerationperiod,resourcesweremisallocatedonalargescale(Caruana,2013,p.1).Therearetwodifferences,nonetheless,ascomparedtoresourcemisallocationundercommandsystem:infreeeconomiesmarketmechanismsarenotemasculatedand, second,peopleandfirmsare free tomake theirownchoices,whichallow incentivesandentrepreneurshiptodrivedecisions.Anotherdifferenceregardsmonetaryaspects:moneyprintingafterprice liberalization inpost-commandeconomiesdidcreatehigh inflation (owing toyearsof suppressed inflation and considerablemoney balances1), while inflation is very low in the

1 Kornai,withhismasterpiece(1980),andKolodkoandMacMahon(1987)analyserepressedinflationinacommandsystem.

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economies afflictedby thecurrent crisis.This isbecausea liquidity trap isoverwhelmingandinflationexpectationsarequitelow,orareevendeclining.Thisdifferenceexplainswhytoleratinghigh inflation, in the initial years of transition, entailed the threat of entrenchedhigh inflationexpectations.ThisprovedahandicapfortheRomaniancentralbankinitseffortstosubdueinflationlateronandforcedarethinkingofitsmonetarypolicyregimeduringthepastdecade.

Pace of financial liberalization

Therewas an intensedomesticdebateon thepaceoffinancial (capital account) liberalization,whichwentbeyondtheimplicationsofthe“Tosowskydilemma”2.Therewereproponentsoffastfinancialliberalization,intunewiththe“WashingtonConsensus”,whichextolledthevirtuesofquick financial integrationwith the outer economy.And therewas amore cautious approach,thatconsideredstructuralfeaturesofemergingeconomies, thethreatsposedbyhotmoneyandtheneedtosequencefinancialliberalization(DăianuandVrânceanu,2002).TheAsiancrisisof 1997-1998shouldhavegivenplentyoffoodforthoughtduringthoseyearsregardingthepaceofcapitalaccount/financialliberalization.But,theIFIscontinuedtoprodquickfinancialliberalizationinspiteofAsiancrisisandsimilarepisodesofcrisisinLatinAmericaneconomies.TheRomanianpolicy-makers did try to sequence the opening of the capital account, but theEU rules of thegame(thesinglemarket)forcedafasterpacewhich,ultimately,enhancedaboomandbustcycle. TheNationalBankofRomania(NBR)madeanattempttostemtheskyrocketingpaceofcredits,butoflittleavailduetoeuroizationandbankparentfunding,andpossiblyduealsotoinexperiencewith what currently are named macro-prudential tools and the sheer size of capital inflows. OneeasilydetectshereHelenRey’sinsightthattheimpossible trinity(trilemma)is,whenaglobalfinancialcycleoperates,basicallya“dilemma”(2013),andthatcapitalcontrolscouldplayausefulroleinmitigatingthedestabilizingfeaturesofmassivecapitalflows.Anensuinginferenceisthatmajorcentralbanks,theFedinparticular,haveakeyresponsibilityinconsideringtheirmonetarypoliciesandensuingexternalities.Rey’s“dilemma”compoundsthe“Tosowskydilemma”,bothindicatinghowhardit istoconductaneffectivemonetarypolicyinsmallopeneconomiesandwhenfacingsubstantialcapitalflows.

ButnotonlytheRomanianeconomywascaughtintheampleboomandbustcycleofthepastdecade.ThelatterdidoccurinlargepartsoftheEU(Figure4).Downhillflowsdidmakesense,buttheydidnotmoveintotradablesectorsinthemain.Romania,theBalticeconomies,Bulgaria,andeurozoneeconomies likeSpainand Ireland, receivedenormousamountsofprivatecapitalthatshowedupinrisingexternalimbalances.OnewonderswhetheraEuropeanfinancialcycle3 wasatplayintheEUaftertheintroductionoftheeuroandagainstthebackdropofthemyopiaoffinancialmarketsregardingtheperformancedifferencesamongvariouseconomies.Muchoftheinflowswasprivateborrowingand,likeintheAsiancrisisof1997-1998,itshowsthatfinancialmarketscare,intheend,abouttheoverallexternalindebtednessofaneconomy,beitdrivenbytheprivatesector.Onecandrawaninferencehereabouttheimportanceofprivateborrowinginjudgingresiliencetoshocksandthetriggeringofbalanceofpaymentscrises.LikeotherNMSs,Romaniafacedaliquiditycrisisduetomarkets’freezeand,asmentionedalready,externalfinancialsupportandtheViennaInitiativewereinstrumentalinavertingaworstscenario.

2 FortheTosowskydilemmaandthewayIMFvieweditssignificancesee(Lipshitzetal.,2002).3 Wereitapplicable,aEuropeanfinancialcyclewouldmixwithwhatBISexperts(Borio,2012,2014)calltheglobal

financial cycle.

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Figure 4: BanklendingandGDPgrowth(2002-2012)

-6-4-202468

2000

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creditgrowthrateGDPgrowthrate

Central West Europe(Belgium, Germany, France, Netherlands)

%

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Northen Europe(Finland, Sweden, Estonia, Latvia, Lithuania,

Denmark)%

-15-10-505

101520

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Western Europe(Ireland, United Kingdom)

%

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East Central Europe(Croatia, Hungary, Austria, Poland, Slovenia,

Slovakia)%

-20-10

0102030405060

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Eastern Europe(Bulgaria, Romania)

%

Source: Eurostat, European sector accounts (central bank; other monetary financial institutions), own calculations

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Which type of inflation targeting?

ForalongperiodoftimeRomaniawasanoutlierwhenitcomestobringinginflationdowntoareasonable(onedigit)level.Aprotractedtransition,withmanylossmakingenterprisesweighingheavily on budget deficits and entrenchedhigh inflation expectationsmade themission of theNBRmore difficult.The perspective of joining theEUprompted amore determined effort tocombathigh inflationand thechoicemadewas toadoptaflexible inflation targeting (IT)asameanstoachieveit(Popaetal.(2002),DăianuandKallai(2004))4.ThisiswhattheGovernoroftheNBR,MugurIsărescu,namesa“light”versionofinflationtargeting.Theoptionfora“light”ITacknowledgedtherealityasmallopeneconomy,whichisheavilyeuroizedandforwhichwildgyrationsoftheexchangerateposesignificantrisks.Thisiswhy,de facto,managedfloatingwaspart and parcel of the practiced IT.As a sharp andpersistent nominal appreciation (followingmassive capital inflows) can be highly detrimental to resource allocation (to the creation ofcomparativeadvantages5),likewise,brutaldepreciationscauseheavylossesviabalance-sheetandwealtheffects.TheNBRcouldnotbecomplacentabouterratic,wideexchangeratefluctuationsand,arguably,thisstancehasmerits.

Disinflation has occurred during the past decade (Figure 5), but with large deviations fromtarget, due to various shocks.Disinflation around theworld also helped in this regard, as didthe largeGDPgap after the crisis hit6. Inflation targeting relied alsoon administrative tools –such as substantial reserve requirements for both euro and leu funds.As mentioned, macro-prudentialtools(restraintsoncreditgrowth)operatedduring2006-2008,butwithlittleefficiency. The transmissionmechanism has improved over the years, with smallermargins between thepolicyrateandlendingrates,butitisstillquitecumbersome.Inaddition,oncethecrisiserupted,supplyanddemandconstraintshavetakentheirtoll,notunlikewhatcanbeseeninalleconomieswheredeleveragingandriskaversionhavebeenubiquitous.

4 “ThecharacteristicsoftheRomanianeconomydonotfavorthe“divinecoincidence”ifhardinflationtargetingisimplemented.Theeconomystillneedssubstantialrelativepriceadjustments,wageshavetobemoreflexible,theeconomic structure shows toomuchpower and the tax system is still prettydistorting….Since theNBRhasannouncedtointroduceITa“soft”formisarguableabetterchoicethanahardversion”(DăianuandKallai,2004,publishedinLiebschaueretal.,p.138).

5 DynamiccomparativeadvantagesliedbehindAsianeconomies’rejectionofrealappreciationoftheircurrencies.Therewasanotherreasonaswell:thebuildupofforexreservesasbuffersagainstanunfavorableinternationalenvironment.Thecrisis1997-1998taughtthemaverypainfullesson.

6 TheGDPgapante-andpost-crisisisquitecontroversial.TheBasel(BIS)viewwouldseethegapsubstantiallylowerinviewoftheneedtoconsiderthefinancialcycle.

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National Bank of RomaniaOccasional Papers, March 2015

Figure 5: Disinfl ation in Romania (yoy, percent)

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CPICORE2inflation target

%

NB: CORE2 (CPI less administered prices and volatile prices)Source: NIS, NBR

Fiscal policy was pro-cyclical after 2009 due to the forex constraint and the big structural budget defi cit. Why output bounced back starting with 2011 is a legitimate question that will be tackled in section four – as a recent vintage dilemma. A monetary policy easing has taken place during 2014, but it was restrained because of the worrisome balance-sheet and wealth effects. In order to judge the working of NBR’s monetary policy, its version of infl ation targeting, two inferences stand out: fi rst, the stimulus entailed by an easing of monetary policy is counteracted by the wealth and balance-sheet effects induced by an exchange rate depreciation; second, when the transmission mechanism breaks down, lower policy rates are less effective due to credit demand and supply constraints. There is an asymmetry at work here, for rises in policy rates can prolong, deepen a recession7. In a heavily euroized economy, monetary conditions (the policy stance) are to be assessed by examining both the dynamics of the policy rate (real policy rates) and the dynamics of the real effective exchange rate (Figure 6).

7 This is Svensson’s argument when he discourages the use of the policy rate as a means to forestall a bubble when the economy is weak. Instead, he asks for the use of macro-prudential tools (2014). On the other hand, there is the view that emphasizes the use of the policy rate as a means to mitigate the amplitude of fi nancial cycles (Borio, Caruana). Woodford seems to take a mixed position on this matter (2012).

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Figure 6: REER,GDPgrowth,policyrate,fiscalimpulse

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Source: NIS, NBR; REER – European Central Bank

4. Recent vintage dilemmas: a new age?

After what the Great Recession has entailed paradigm-wise, policy wise and as an overallmood,agrippingnew“ageofuncertainty”8,ofdisruptions,wouldbeaproper termtocapturepeople’ssentimentsandchanges.Let’ssumupwhatappearstomakeupthedramaticallychangedenvironmentinwhichpolicy-makers(centralbankersincluded)operate.

4.1. The overall environment: cognition and policies

TheGreat Recessionhasquestionedcognitiveandoperationalmodelswithwhichpolicy-makersoperate.Therefore,theyneedtoconsider,inter alia:

− an oversized financial sector (Ugo Pagano et al.), with destabilizing features (Stiglitz,2010;BlanchardandOstry)andaderailedinstitutionalculture9,inspiteofmajoreffortstoreformitsregulationandsupervision;

8 ThisconceptwasusedbytheHarvardeconomistJohnKennethGalbraithina1977TVseries,inwhichhetriedtoportraytheworldthewayhesawitatthattime.

9 AsMarkCarney, theheadof theFinancialStabilityBoard andVice-Chairmanof theESRBsays, by echoingWilliamDudleyandMinoucheSafik,“thesuccessionofscandalsmeanit issimplyuntenabletoarguethat theproblemisoneofafewbadapples.Theissueiswiththebarrelsinwhichtheyarestored”(2014).

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− how tomodel non-liniarities (tail events) is a big challenge, as it is the integration offinanceinmacroeconomicmodels(Brunermeieret.al;Borio,201210)11;

− aparadigmshift:pricestabilityisnotsufficientforeconomicstability12;

− proliferation of conventional and non-conventional shocks (including cyber attacks), andadeclineinrobustnessandresilience(risingfragility);

− complexityontheriseandinabilitytounderstanditfrequently;thencetheneedtohavemoresimple,moretransparentandmorerobustfinancialsectors;

− anover-burdeningofcentralbanks’functions’;centralbankscannolongerrelyonsimplerules(liketheTaylor’srule).Thismakescentralbankers’lifemuchmorecomplicatedandobfuscatesthedelimitationsbetweenmonetarypolicyandotherpolicies,especiallywhenfinancialstabilitygetsintothecenterstage;

− the development of capital markets brings about new systemic risks. Regulators andsupervisors of these markets will arguably think increasingly like central bankers totheextent shadowbankingcreatesnewsystemic risks (think justabout the rolecentralcounterpartiesareaskedtoplay,thevolumeoffundsmovedbyhedgefundsandmoneymarketfundsworldwide,andsuddenstopsthatcanoccurinthesemarkets);

− thespecterofmuchlowergrowthintheindustrializedworld(abalance-sheetrecession,secular stagnation) due to demographics, income inequality (Piketty; Saenz, IMF andOECD), technical change and zero-sum games in the world economy, etc. (Summers;Gordon;Crafts;Eichengreen;Koo;Jimeno,SmetsandYiangou);

− socialandpoliticalimplicationsofeconomicslowdown/recession;

− ineffectiveinternationalpolicycoordination.

As far as Europe is concerned several observations can bemade, which are relevant for ourdiscussion:

− theeurozoneis,arguably,nolongermenacedbyacollapseowingtoECB’sextraordinaryoperationsandlargemacro-imbalancecorrectionsinitsperiphery.ThestresstestsandtheAssetQualityReviewshaverevealedbettercapitalizationofbanks.Butotherthreatsarelooming;

10 AsBorio(2012)putsit,“macroeconomicswithoutthefinancialcycleislikeHamletwithouttheprince”.Monetarypolicyregimes,inflationtargeting,aregoingtobeinfluencedbythisnewoutlookregardingfinancialstability.

11 Buch and Holtenmöller (2014), while examining dynamic stochastic general equilibrium (DSGE) models,acknowledgetheirweaknessesinexplainingcrisesindevelopedeconomiesandalludetothemodelingofbalanceofpaymentscrisesinemergingeconomies(Calvo,1995;Krugman;Velasco).BISexpertsfavorafinancialcyclebased,adisequilibrium(Minsky-type)approach.ForanexplanationofcrisesintheeurozoneseeStein(2014).

12 RajanquotesAndrewCrockett,theformerGeneralManagerofBIS,who,inaspeechof13February2001,saidthat“thecombinationofaliberalizedfinancialsystemandafiatstandardwithmonetaryrulesbasedexclusivelyintermsofinflationisnotsufficienttosecurefinancialstability”(2013,p.2).

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− aspecterofdebtdeflationintheeurozoneisreal;debtdeflationcouldrekindlethemenaceofaeurozonebreakup;

− thelinkbetweensovereigndebtandbankbalance-sheetshasnotbeensevered;anditmaybequiteunrealistictothinkthatatotaldelinkingisfeasible.Attheendofthedaytheonlyentitywhichhastaxationpower,irrespectiveofhowfinancialmarketsdeemitsreputation,aregovernments;

− marketfragmentationhascontinued,althoughtheperiphery(exceptGreece)paysmuchlesscurrentlyforissuingitsdebtduetoECB’sspecialoperations;

− internaldemandinmostoftheeurozoneisveryweakandsufferingfromthenegativeloopsbetweenweakactivity,fragilebanks,weakfirms,diminishedincomes,andtheneedforfiscalconsolidation;

− thebottomlinequestionintheeurozoneis:howtofostereconomicgrowth,avoiddebtdeflation?Unlessthisisachievedtheseedsofanewcrisisareplanted,whichwouldimpairthestateofthebankingsectoragain(inspiteofitseffortstoincreaseowncapital,reduceleverage);

− thefragilityofthegrowthmodelthatreliesondebt;thisisparticularlyrelevantforNMS(CESEE) economies, which need to reinvent their growth model, enhance domesticsavings,orientmoreresourcestowardtradables;

− thefalloutfromtheUkrainecrisisoneconomicrecoveryinEurope,thereturnofmajorgeopolitical risks; this development is especially relevant in an environment which isalreadyveryseverelyinfluencedbyriskaversion.ThefallofthepriceofoilandgashardlyoffsetstheeconomicimpactoftheadditionaluncertaintyonCESEEeconomies;

− capitalflowsreversalsareasignificantthreatinviewofthedisconnectbetweenboomingassetmarketsworldwide and the very slow economic growth rates inmost ofEurope. The search for yieldwould quickly be arrestedwere theFed to taper its stimulus in asignificantway.

4.2. Dilemmas of recent vintage: the domestic context

ObservationsaremadenextonarangeofpolicyissuesanddilemmaswhichconfronttheNBR.

The policy space issue

EconomistsarefondofextollingthevirtuesoffiscalspaceandtheEuropeanCommissionandtheIMFkeepproddinggovernmentstobuilditupthroughbuffersandcounter-cyclicalmeasures. Butthereisanother,broaderandnotleastimportantconcept,e.g.,policyspace.Foreconomiestoadjustsmoothlytoshockstheyneedtorelyonhighlyflexiblemarketsandbeabletoresorttoanarrayofadjustmenttools–JanTinbergengothisNobelprizeforhighlightingjustthistenetdecadesago.Inasinglecurrencyarea,wherethemonetarypolicyandexchangeratepolicyare

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gone,thetasksforpolicymakerscaneasilyturnintoamissionimpossibleunlesslocalmarketsaresufficientlyflexibleandproductivitygainsinthelocaleconomymatchthoseofneighboringeconomies.

When to join the Banking Union and the euroarea

Thepolicyspaceissueandthepainsthesinglecurrencyareaisgoingthroughmakesjoiningtheeuroarea(whichisamustaccordingtotheaccessiontreaties)amorecomplicatedjourney.ThereiscautionamongNMSsinthisregard.Forkeylessonsoftheeurozonecrisisisthatrealconvergenceandabetterfunctioningofthesinglycurrencyareaarebadlyneededinordertomakeaccessionsuccessful.Solidfiscalunderpinningsarebadlyneededintheeuroareawhilefiscalrectitudeisnotsufficientinthisregard.ItshouldbesaidthattheUkrainecrisishasbroughtgeopoliticalconcernsintotheprosofjoiningtheeuroarea(thecaseofBalticeconomiesinparticular).

TheBankingUnionprojectmightprovideasolutiontoenhancingthecohesivenessoftheeurozone.Butthereareimportanttechnicalities,ofafiscalnatureinparticular,andsequencingproblemsthatneedclarification.Andthereishardlyanytalkaboutacollectivedepositinsurancescheme,whichwouldmakesenseinamonetaryunion.Nationalbudgetswillessentiallybethemainfinancialbackstopsincaseofemergencies,althoughtheECBwillhoverastheultimatelenderoflastresortincaseofdireneed,and there isalso theESMasapossible instrument.Sincememberstates’financialfortunesareverydifferent,inferencesarenothardtomake.Thebailing-inproceduresarelikelytoincreasefundingcosts,intheshorttermatleast.Thereisalsotheneedforastrongandtimelyfinancialbackstop(the55billioncommonresolutionfundisprettysmallanditstimeofcomingintobeing,2024,isprettyremote)13.Thereareotherneededpolicyarrangements,whichgobeyondtheoperationsofabankingunion,inordertomaketheeurozone,theEU,functionproperly.Thissaid,however,oneneedstoconsiderthatbankingsectorsintheNMSsareheavilycontrolled byEuropean groups and that participating in theworking of the Single SupervisorMechanismandtheSingleResolutionFundpresentsbenefits.

A threat of the zero lower bound?

Diminishinginflationhasallowedaneasingofmonetarypolicylately;thepolicyratemovedfrom5,25policyrateinDecember2013to2,75percentinDecember2014andreserverequirementswere also brought down several times. In January 2015 the policy rate was cut further to 2.5percent.Ifinflationcontinuestobeconsiderablybelowforecasts(notleastduetotheoilpricefall)theNBRhastheleewaytoloweritspolicyratefurther.Itistellingthat2014endedwithaninflationrateof0.8percent(considerablybelow1.5percent,whichisthelowerboundofthebandaroundthetargetof2.5percent).Acautionnoteformovingdrasticallyfurtherdownwouldbelinkedwiththebalance-sheeteffectandtherisingglobalriskaversion.OnecaninferthatathreatofthezerolowerboundinRomaniaishighlyimprobableinthenearfuture.

Financial stability

Financialstabilityisaconcernnotquiteofrecentvintage.HigheuroizationhasalwayssuffusedNBR’smonetary policywith a concern for the balance-sheet effect and for financial stability13 Allthisimpliesthatnationalbudgetswouldhavetostepinordertodealwithbanks’failure.

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(apart from the concern to avoidbank failures as didhappen in the late 90s).The thinking attheNBR,which issharedmorewidely in the localpolicy-makingcommunity, is thatfinancialstabilitypolicyshouldbeapreserveofthecentralbank.Thisisduetotheneedtohavethoroughinformationandbeabletorespondquicklytoacrisis.TheCypruscrisisvindicatedthisapproach,for thereareoutfitsofCypriotbanks inRomania.TheNBRhad toactswiftly incoordinationwithEuropeanAuthorities(ECB)andthecentralbankofCyprus.Howcanoneavoidconflictsofinterestinformulatingmonetarypolicyandfinancialstabilitypolicyisnotatrivialissue,buttheexperienceavailableandtheneedtoactcoherentlywhenthingsgoawrywouldarguablysupportthechoicemadeuntilnow.Concernforfinancialstabilityimpliesmeasurestodiminishthedegreeofeuroization,beaccessionintheeuroareaanultimategoal.Anditisgoodthatthereisatendencyforthelevelofeuro-denominatedcreditstocomedownsimultaneouslywiththerelativeriseintheshareofleu-denominatedcreditslately.OnecansubmitthatamoreactivepresenceoflocalbankswouldbeafavorableevolutionbyconsideringthedeleveragingundertakenbybanksthatoperateEU-wideandwhich, sometimes,cater less to theneedsof localmarkets.Havingsaid thisoneshouldnotunderestimatethelessonsfromthecollapseofSantoEspiritoinPortugalandthefailureofacoupleofdomesticbanksinneighboringBulgaria.Itmaybegoodtohavemoredomesticcapitalinlocalbanking,buthowbanksaremanagedisthekeyissueintheend.

A credit puzzle?

InCESEES(Central,Eastern,andSouth-EasternEurope),publicdebtsandprivatedebtsaremuchlower thaninmostof theEU:is thereapuzzlewithcredit?14. Inspiteofdeleveragingandtheimportanceofgeneralexternalfundingrequirements(GEFR)forthewayfinancialmarketsjudgesovereigncreditworthiness,thereisfact:theEUmatureeconomieshavepublicandprivatesectordebtmuchhigherthantheNMSsofCentralandEasternEurope15.OneexplanationcouldbethatNMSs,CESEESingeneral,enjoyedthe“benefits”oftheGreatModeration(risingindebtedness)later.Buttherecouldbeotherexplanationsaswell,suchas:boomandbustdynamicstookplaceinNMSstoo;therewassubstantialresourcemisallocation,withmuchinvestmentinnon-tradables(whichshowsupinthevolumeofNPLs);tradeandfinance,FDIlink,CESEESorganicallywiththerestof theEU(deleveragingisafacetof thisfinancial integration); localmarketsentimenthingesonEU-widedynamics;bankshavetightenedcreditconditionsandmanyfirmsarereluctanttoborrowmorebecauseoftheirdebts;householddebtmustnejudgedinconjunctionwithpeople’sincomesandtheirwealth(lendingtakesintoaccounttheassetsofindividualsandfirms)16.14 Borioarguesthatamainindicatorforthefinancialcycleiscredit(2012,p.29).IntheCESEESitisprobablythe

speedofcreditexpansion(andlessitsstock)togetherwithpoorresourceallocationthatliebehindtheboomandbustdynamic.

15 In2012,accordingtoEurostat,thepublicdebtandtheprivatedebt(exceptfinancialinstitutions)were,asashareofGDP,inGermany81percentand107percent,respectively;intheNetherlands,71.3percentand219percent,respectively; in the UK, 89 percent and 178 percent respectively; in Italy, 127 percent and 126.4 percent,respectively.Whereas the similar numbers, in the same year, were in Poland, 55.6 percent and 74.8 percent,respectively; in Slovakia, 52.7 percent and 73 percent, respectively; in the Czech republic, 46.2 percent and 72.4percent,respectively;inRomania,38percentand73percent,respectively.

16 AccordingtoEurostat,in2012,salariesintheEU15(thebetteroffcountries)hadanaverageshareoftheGDPofover50percent, asagainst33percent inRomania. In the sameyear, this sharewas51.6percent inGermany, 52percentinFinland,54percentinSweden,53percentinFrance,45percentinHungary,38.6percentinBulgaria.In 2012, the share of profits in GDP was 38.4 percent in the EU15, while it was 54.5 percent in Romania, 48.4percentinBulgariaandcca.40percentinHungary.

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Although local banks rely increasingly on deposits domestic savings are still low. Therefore,motherbankspoliciesandoverallcreditconditionsintheEUwillcontinuetoshapebanklandinginCESEESintheyearstocome.Thereisatworkhereapowerfulsizeeffect,forthesearesmalleconomiesandtheirgrowthprospectsdependonwhathappensinthehardcoreoftheeurozone.

A creditless recovery?

WhyGDPbouncedbackafter2011though,inspiteofthefallofthestockofcredit?Istherea“credit-lessrecovery”inRomania17.Severalthoughtscanbesubmittedinthisrespect:oneshoulddistinguish between the stock and credit flow (especiallywhenmassivewrite-offs aremade);newcreditsconditioneconomicrecovery;bigrecessionsarefollowedbyrecoveriesthatmaynotinvolvecreditexpansion,forthereisalreadymuchliquidityinthesystem(whendormantliquiditywakesup,itmaymakenewlendingredundant);thereismuchfragmentationinourcreditmarkets,withSMEsbeingundermuchpainandsomeofthembeingpricedoutofmarketsforthewrongreasons;thereisasubstantialundergroundeconomythatisnotcapturedbystatisticsandwhichcanlubricateafinancialsystemthathaspartiallybrokendown;commercialcreditcanbeasubstituteforbanklendingandarrears, too,canplayarole in thisregard.Not least,EUfundscanbringinadditionalliquidity,funding,tothetuneofseveralpercentagepointsofGDP,whichisaverysubstantialinjectionofbasemoneyinthedomesticeconomy).Tonoticeisthatexportsgrowthwaskey indrivingeconomic recovery in recentyears;productivitygainswerealso important. Adistinctionwasmadebetweencreditstockandcreditflow.Itispossiblethatdeleveraging(whichshowsupinthedecreaseofthestock)shouldnotprecludenewbanklending.Especiallyinaneconomyinwhichcapitalmarketsplayaminorrole.

Macro-prudential policy

Onehastoconsiderthatmuchofthemacro-prudentialtoolswhicharerecommendedbytheESRB,theFSB,etc.,arepoorlytested,andinsomeinstances,theexperiencegainedisnothighlyrelevant.Spain’spoorrecordinspiteofitsdynamicprovisioningandprudentfiscalpolicyisquitetellinginthisrespect.Romania’sownexperiencewithtryingtostemmassivecapitalinflowsindicatesthelimitedroomofmaneuverinthecontextofthe“singlemarket”.Likewise,thecurrentcrisiscompelsatrevisitingtheplusesandminusesofdeepfinancialmarketsinrelationtothesizeofeconomy.Inaddition,onewonderswhethertheuseofhighlysophisticatedfinancialproductsiswarrantedwhenmarketscanbesoerratic,volatile.

Capital markets dynamics are linked with financial cycles.What drives a European financialcycle (if there is any) is ofutmost importance for theEMsofEurope,whosemacroeconomicpoliciesareheavilyinfluencedbywhathappensinthecoreeconomies.AEuropeancycledependson crisismanagement policies at theEU level and its intrinsic drivers.The latter also dependon theparadigmspolicy-makers embrace. It appears that there is, currently, a clashofvisionsinthisregard.“TheBaselview”takesalongtermperspectiveandstressesfactorsandpolicieswhichhavemadeeconomiesdrift fromsustainable trajectories (haveamplifiedboomandbust

17 The stock of credit, as a share ofGDP,went down inRomania during the crisis years.This tendencywouldvalidate adelinkingbetweencredit and economic activity after episodesof crisis andwhenaccess to externalfinanceisprettydifficult–socalled“creditlessrecoveries”(Calvoetal.,2006;TakatsandUpper,2013).

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dynamics)and resourcesbemisallocated.Bynotdelaying rises in thepolicy rateswouldbeameanstocombatfutureboomandbust,newbigcrises.Anotherviewhighlightsthethreatofdebtdeflation,especiallyinEurope,ofbeingstuckinaverybadequilibriumwithintensehysteresisphenomena,thatmayinvitesocialandpoliticaltroubles18.Incomeinequalityandhighlyskewedwealthdistribution,whichwouldimpaireconomicgrowth,isafactorthatshouldbefactoredininbothvisions;itcanbringthemcloserandreconcilepoliciesthatcanbolsteraggregatedemand (for the sake of avoiding debt deflation) with measures that take into account resource misallocation.

Whenitcomestoworldcapitalmarkets,weseemtobeatthebeginningofabumpyride,atatimewhenthecrisisisnotyetover(inEurope,theimpactofthefinancialcrisisblendswiththecrisisoftheeurozone).Itisneverfutiletostresshowmuchimportantforglobalmarketsistheinternationalpolicyregime,whatbigplayersintheglobaleconomydo.

The eurozone

EconomicrecoveryintheeurozoneconditionstheverysustainabilityofeconomicgrowthinNMSsviamany channels, includingfinance.Were debt deflation to happen onwide stretches of theeurozone,thiswouldquitelikelybringtheRomanianeconomyagaintoahalt.Economicrecoveryintheeurozonedependsnotonlyonnationaleconomicpolicies,butoneuroarealevelpolicies:onwhetherthereisasignificantbolsteringofaggregatedemandattheeuroarealevelwhichshouldhelpavoiddebtdeflation(istheJunckerplansufficientinthisregard?),theoperationsoftheECB19 and,notleast,structuralreformsinvariouscountries20.Moredebtrestructuringmaybeneededtohelptheprivatesectorbereignited(Borio,2012).

A middle income trap?

Thisisaconcernrootedintheneedforacatchingupeconomytohavenamixofpolicieswhichfavoreducation,innovation,andconstantupgradingofthevalue-addedintheeconomy.Itisnotaneasytaskforpolicy-makerswhenintheeconomyissmall,deeplyintegratedinoutermarketsandwithlocalmarketsdominatedbyinternationalgroups.Whyshouldacentralbankhavethisconcern?Since itspoliciesare increasinglyunderpressuredue to theneed toprotectfinancialstability,whichultimately,islinkedwithinternalandimbalances,therobustnessandresilienceoftheeconomy.Ahugechallengeforpolicy-makershereishowtomobilizesubstantialefficiencyreserves,which,intheRomaniancase,areubiquitousatmicroandmacrolevels.

18 SeePosenandUbide(ed)(2014).19 AproblemfortheECBtoreplicatetheFed’andtheBankofEngland’sexperiencewithQEsisthatcapitalmarkets

playamuchsmallerroleinfinanceinEurope;thislimitstheroomforrepairingabrokentransmissionmechanism.20 MarioDraghi’sspeechinJacksonHole,inAugust2014,inwhichhehighlightedthesethreecomponents,isquite

indicativeinthisregard.GiavazziandTabelliniconsiderthatthereisneedforamuchlargerboosttoaggregatedemandthanwhat theJunckerplansuggests(2014).SeealsoButiglioneetal. (2014)andWolff(2014) in thisrespect.

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4.3. The wider context

A trade-off between economic growth and financial stability?

The possible trade-off mentioned above is, probably, the most profound “Grosse Frage” foracademiceconomistsandpolicy-makersnowadays.OnecouldsaythatthisquestionsetsaBaselviewagainstaviewthatismoreconcernedwiththelevelofresourcesusedintheeconomy,withtheneedtocombathighunemploymentandavoidpoorequilibria.Oneviewtakesalongertermperspective;theotherpaysattentiontowhatmaypushaneconomytowardabadequilibriumandkeepitstucktherebecauseofhysteresisphenomena.Arelatedquestionisthegrowthpotentialofmatureeconomies.Gordonwouldsaythatitislowerthaninthepastowingtoarangeofstructuralfactorsincludingdemographics,education,etc.Othervoiceswouldarguethatthisgrowthpotentialmaybeerodedbynotadoptingtherightpoliciesnow,inthewakeofthecurrentcrisis.Othersfear thatattempts tofostershort termgrowthmaysowtheseedsoffuturecrisesbyenhancingthesearch foryieldandriskybehavior (Borio,2014;Rajan). Isawayoutof thisconundrum?Summers(2014)seemstobequitepessimisticinthisregard.Onewouldhavetoconsideralsotherelationshipbetweeneconomicgrowthandincomedistribution.Itisquiteanamazingchangetoheartopofficialsofmajorcentralbanksvoicingconcernsinthisregard,theirworriesthatincomedistributionmayhurteconomicgrowth(Yellen,Mersch,Haldane);IMFandOECDexpertsvoicesimilarconcerns21.Thedebateencompassingthese issues isofenormousimportancetocentralbanks,fortheirmissioncannotbedivorcedfromwhatpolicymakersdoinordertoresuscitatetheireconomies.

The governance of the eurozone and its fiscal underpinnings

Fiscal rectitude isnotsufficientforrescuing theeurozone.There isneedofelementsoffiscalintegration (the issue of common bonds, eventually), of tools for dealing with asymmetricshocks(suchasinsuranceforunemployedpeople)andofstrongermeansforfosteringeconomicconvergence.Fiscal capacity,asputforwardbyformerpresidentHermanvanRompuy,encapsulatessuch requirements22. It is justified to decry, as some do, the insufficient size of resources the EU budget assigns to R&D based activities, to innovation, as a means to help EUmembersstatescopewiththechallengesposedbytheemergingeconomicpowers.Butitisalsowrongtounderestimatetheimpactontheeurozone,ontheEUingeneral,ofgrowingeconomiccleavagesamongmemberstates.

The reform of finance: size, content, shadow banking

The Larosiere and Liikanen reports, which were worked out at the behest of the EuropeanCommission, theTurner,Vickersand theTyrie reports in theUK, theDodd-Franck legislation21 KorinekandKreamer,fromtheBIS,observethatfinancialderegulationfavorsWallStreet(asagainstMainStreet),

that it has important redistributiveeffects (2014).Market imperfectionswouldask for regulatory interventionswouldincreaserisk-sharingbetweenfinanceandtherestofsocietyonboththeupsideandthedownside.ForthelinkagebetweeneconomicgrowthandincomedistributionseealsoPiketty(2014),PikettyandSaez(2013),Ostry,BergandTsangarides(2014).

22 StudiesmadefortheEuropeanCommission,morethanthreedecadesago,highlightedtheneedforaEurozonebudget,whichshouldgoover5percentof thecumulatedGDPof thememberstates (theMacDougall report).There is talknowadays, too, about theneed tocreateaEurozonebudget (see, inter alia, theGlienickergroupreportinGermanyandtheEiffelgroupreportinFrance).

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andtheVolcker’sproposalsintheUS,whattheFSBandtheBISdo,indicatealogicandactionofoverallreform23.Measureshavebeentakeninordertobolstercapitalandliquidityrequirements,reduceleverage,limitpay,enhancetransparencyanddiscourageexcessiverisk-taking,etc.But,arguably,morehastobedone.Forexample,dealingwiththe“toobigtofail”syndromerequirestheapplicationofanti-trustlegislation,asitdoeshappeninvariousindustrialsectors;thiswouldimply splittingbigfinancialentities.AsortofGlass-Steagall legislation shouldbe restored, asafterthe Great Depression.Ring-fencingretailfromtradingactivitiesis,arguably,notsufficientforprotectingtax-payers24.Moreowncapitalandlessrelianceondebt(asagainsttheModiglian-Millertheoremwhichimpliesthatwherecapitalcomesfromdoesnotmatter)25,rulesthatprohibittheuseofdepositors’moneyfortheowntradingofbankswouldalsocontributetomakingsystemsmorerobust.

Therobustnessandresilienceoffinancialsystemshasbeenmuchdiminishedbyinter-connectednessandthespreadinguseofderivatives.Inordertoreduceitsfragility,makeitmorerobust,thefinancial(banking)systemneedstobe“modularized”,asAndrewHaldaneremarks(2012).Andthereareways toachieve it, inspiteofsternoppositionfromthefinancial industry:bypromotingmoresimplebanking (finance),downsizing largegroups, separatingactivities,prohibiting theuseofcertainfinancialproducts,regulationoftheshadowbankingsector(hedgefundsandprivateequityfundsincluded),forcingtransactionsonopenvenuesandmandatingreportingandtransparencystandards,punishingfraudsandmarketriggingseverely.Moreshouldbedonewhenitcomestodiminishingthecasinolikeactivitiesandregulatingshadowbaking,enforcingethicalstandards,tacklingthethreatsposedbyrisingelectronic(algorithmic)trading,cyberattacks.

Trilemma, or “Dilemma”

BorioandBISexpertsconsiderthatthe“financialcycle”hasmuchlowerfrequencythanbusinesscyclesandismuchmoreampletimewise(2012).Inthiscontext,theobservationthatthefinancialcycledependscriticallyonpolicyregimesisofexceptionalrelevance.For,althoughcyclescanhardlybeprecludedtheamplitudeofboomandbustdynamicsisinfluencedbypolicies,asitisthesizeofthefinancialindustry–whichisoversizedinnotafewadvancedeconomies.

A new Bretton Woods?

Thefutureinternationaleconomicsystemwill,quite likely,becarvedoutamongst threemajorcurrencyblocs,withtheUS,theEUandChinaprovidingthelynchpins.Areshapedinternationalregimewould involve rules for the realignment ofmajor currencies andmeasures in order tomitigate destabilizing capital flows, includingfinancial transactions taxes; rules for preservingan open trade regime, but that should consider the needs of the poorest countries at a time23 One of the legislative pieces of the European Parliament dealing with the need to reform the regulation and

supervisionoffinancialmarketsisareportbyIekevandenBurgandDanielDăianuandtherelatedresolutionoftheEuropeanParliamentof9October2008.

24 The proposal made by the US senators JohnMcCain and ElisabethWarren does make sense and should beconsidered in Europe too.As a FinancialTimes editorial stresses “itwould eradicate the testosterone-chargedcultureofinvestmentbankingfromretailactivities”(“SplittheBanks”,13July,2013).SeealsoLaven,Ratnovski,andTong(2014),andGapper(2015).

25 SeeAdmatiandHellwiginparticular(2013).

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whenecologicaldegradationandfoodsafetyarearisingglobalconcern.ThefunctioningoftheIFIswouldhave tokeep inmind the shiftingpower redistribution in theworldand lessonsofeconomicmodernization.G20hasnotbeeneffectiveenoughinthisrespect.Anewinternationalregimewouldhavetocombattaxevasionandavoidance,notleastbecauseoftheheavyburdenbankrescuesoperationshaveputonpublicbudgets,ontaxpayers.Inthisrespect,alegislationthat should limit tax havens to the utmost would make sense economically, socially, andethically. In domestic finance the restoration of a sort of Glass Steagall legislation would bemore thanwelcome, togetherwithmeasures that dealwith the toobig to fail syndrome, limit over-riskyactivities(trading),downsizefinanceandbringitbacktoreason,makeitmoresimple. TheEUandtheUShavethekeyroleinpromotinguniformnormsintheregulationandsupervisionoffinance.TheFinancialStabilityBoardcouldhelpenforcethisnewframework.Themainaimhereinisnottheavoidanceofarbitrageattemptsbyfirms,buttheveryfunctionoffinanceintheserviceofeconomies.TheUSandtheEUhavethekeyrole inreinventingthelogicandspiritofBrettonWoods,intamingfinance,forthesakeofregainingeconomicstabilityandavoiding “darkcorners”(Blanchard,2014),inordertodefenddemocraticorder.

5. Final remarks

Centralbankershaveamuchmorecomplicatedanddifficultjobnowadays.Notonlythattheimpactof thefinancialcrisiscombineswithapersistenteurozonecrisis,butcognitiveandoperationalmodelshavebeenquestioned.Itisaperiodofincreasinguncertainty,whencentralbanksnavigateinunchartedterritory,whichiswellillustratedbythediplomaticeuphemismof“un-conventionalpolicies”.Furthermore,a threatof“secularstagnation”andthemenaceofdebtdeflationintheeuroarea arepointing at years of painstaking efforts tokeep theboats afloat.Central banks in NMSs have their tasks shaped by membership, or not in the euroarea, size of domestic macroeconomic imbalancesandofpublicandprivatedebts,degreeofeuroization, intensityofdeleveraging,etc.PreservingfinancialstabilityiscrucialandthismissionhingesenormouslyonthehealthofthebankingsectorinEurope,ontheeffectivenessofmacro-prudentialtools.Thisgoalwillinfluencemonetarypolicy,inflationtargetingregimestoo.JoiningtheBankingUnionisanoptionunderconsiderationinviewoftheheavypresenceofinternationalbanksonlocalfinancialmarkets.Butthedeepinterestandconcernofanylucidpolicymakersistoseethefunctioningof a “complete” banking union, which should help achieve a proper design of the euroarea. AnadequatedesignandbetterpoliciesintheeuroareawouldhelppreventdebtdeflationbecomearealityandthreatentheveryexistenceoftheEU.Romaniahasgonethroughaverypainfulprocessofmacroeconomicadjustmentafter2009.Its“newage”dilemmasarelinkedtoalargeextentwithchallengesthatfaceallEUmemberstates.

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occasional papers no. 13 · source: eurostat, european commission, autumn forecast 2014; bpm6...

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