ECB's Constancio Says Negative-Rate Policy Has `Clear Limits'

  • Monetary policy not `zero-sum game' to depreciate currencies
  • Says central bank actions are creating additional demand

European Central Bank Vice President Vitor Constancio on Wednesday said there was only so much that negative interest rates can do to boost the economy and defended the central bank’s strategy as positive for the euro area as a whole.

It is “important to recall that there are clear limits to the use of negative deposit facility rates as a policy instrument,” he said in a speech at the Levy Economics Institute of Bard College in New York state. “Tier systems that simply pass direct costs at the margin can mitigate this concern but cannot dispel it altogether.”

Even as it cut its deposit rate to minus 0.4 percent, the ECB expanded bond purchases and credit-easing measures in March in its bid to revive inflation in the euro area. Constancio is in the U.S. to attend the spring meetings of the International Monetary Fund and World Bank in Washington, where officials will assess the effectiveness of monetary policy in the face of faltering global growth, among other topics.

“From a global perspective, monetary policy measures that strengthen the resilience of the domestic recovery do not amount to a zero-sum game, in which different jurisdictions merely aim to debase their currencies vis-à-vis each other,” he said. “Monetary policy accommodation, by improving domestic credit conditions and stimulating nominal spending, creates additional global demand, rather than just leading to demand-switching from one economy to the other.”

Bigger Cut

Accounts of the Governing Council meeting on March 10 showed that policy makers considered a bigger rate cut but eventually decided against it. They also discussed an exemption plan for banks’ excessive reserves, rejecting it among other reasons because of its complexity.

“There is always the possibility of hitting the limit where the preference for cash withdrawals would set in,” said Constancio, speaking of the limits of negative rates. “The instruments should not push banks to pass on their additional direct costs by turning deposit rates negative or increasing lending rates to increase margins. Both developments would be problematic for our monetary policy goals.”

In his speech, Constancio defended the effectiveness of the ECB’s monetary policy in reviving growth in the 19-nation currency bloc, adding that its side effects are for now limited.

“Overall, broadly counting all the effects that negative deposit facility rates have on banks’ profitability, the aggregate result comes up positive for the euro area as a whole,” he said. “Given that monetary policy takes time to transmit to the real economy, the full effects of these measures on macroeconomic conditions have yet to fully materialize.”

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