Speech by the Governor Boštjan Vasle at the Slovenian Bankers’ Day

Ladies and Gentlemen,

A very warm greeting to you from me too. One of the traditions that I took over from my predecessors at the Bank of Slovenia is taking part in the annual meeting of the banker profession organised by the Bank Association of Slovenia.

I will use this opportunity to present our view of the current situation, which has changed considerably since your meeting last year. The Eurosystem governors responded to the changes by adopting a package of measures in September aimed at promoting economic activity and mainly at bringing inflation close to our long-term goal of “close to or a little less than 2%”. There has also been something of a change in the consensus regarding the use of other economic policies, principally fiscal, which are being formulated both on the global level and within the European Monetary Union (EMU).

Economic conditions are deteriorating, on the global level as well as in the euro area and in Slovenia. On the global level, growth in 2019 will be lower in as much as 90 percent of the world economy. The latest forecasts from the International Monetary Fund therefore point to growth of just three percent.

In our most recent forecasts, both the European Central Bank and the Bank of Slovenia have revised downwards the growth in the euro area and in Slovenia. Other institutions have also made similar downward adjustments of their forecasts, including the Organisation for Economic Co-operation and Development (OECD), the European Commission and the European Bank for Reconstruction and Development. But we are talking about stagnation of growth and not a recession. Economic growth is slowing down, but in most of the world and Europe it remains positive. But this picture is a little more complex. Industry integrated into international trade is sluggish, while the service sector, which depends mainly on domestic demand, remains robust. Here we can perceive the first effects of the slowdown in the manufacturing sector, which is negatively impacting the service sector. The fact that the labour market remains at a record level is reassuring.

Along with the cooling of the economy, risk and uncertainty are growing. Among the most important factors here are the lack of agreement over international trade, the withdrawal of the United Kingdom from the European Union and the slowdown in economic growth in China.

It should be underlined here that the key factors slowing down growth and increasing uncertainty stem from those in charge of economic policy. This latest downturn in the economy is therefore not a result of accumulated issues in the internal imbalance, but stems from conscious decisions. These decisions do not just have harmful consequences for global growth, they also represent a shift in policies and institutions that have been built over decades. The EU and the system of free trade are the result of continuous negotiations and formulation of policies throughout the period since the Second World War.

As a result of the aforementioned sluggishness of economic growth, there was consensus within the Eurosystem that an additional monetary policy response was needed. I should remind everyone that in recent years the ECB has provided a large degree of accommodation.

In the initial stage of the crisis we responded forcefully and adopted a range of conventional measures such as lowering interest rates. Due to the insufficient level of recovery, like the other larger central banks we added to these measures unconventional measures such as quantitative easing.

Through the application of a range of new instruments, monetary policy has thereby in the past few years responded strongly, and its measures have promoted aggregate demand and via economic activity a stable growth in prices.

Due to the deterioration in economic conditions in the last few quarters, as well as inflation trends, which remain distinctly below the objective of “close to or less than 2%”, the governors of euro area central banks decided to adopt an additional package of measures.

The key idea behind this latest package is to maintain influence on the overall yield curve, which has required a combination of both conventional and unconventional measures. By maintaining the conventional measures we are influencing mainly the short-term interest rates, while through the unconventional measures we are maintaining an influence on long-term interest rates.

By reducing interest rates by an additional tenth of a percentage point, we sought in this way firstly to influence mainly the short-term part of the yield curve, and secondly through the revival of purchasing securities and maintaining the reinvestment of due principal of previously bought securities we have sought to influence the longer-term segment of interest rates.

To improve the transmission of these measures into the economy, as the third step we set up a new series of long-term targeted loans under the same conditions as in the past. For this reason (as we often emphasise) it is highly important for banks to boost their lending to the commercial sector, where we are faced with aggregate demand and its effect on prices.

Additionally, we implemented a fourth measure by strengthening the signals for the future orientation of monetary policy, in other words our commitment regarding how long would interest rates remain at current levels or would they be even lower.

To sum up, with the latest measures we have enabled a reduction both in short-term and long-term interest rates, improved the transmission of monetary policy to the economy and along with a more solid commitment regarding the longer-term orientation of monetary policy we have limited part of the uncertainty in bank financing.

An important part of this package, especially for you, is the two-level interest yield on surplus reserves or "tiering", which enables more favourable interest yield on the portion of surplus reserves that commercial banks place in central banks of the Eurosystem. In addition to the aforementioned direct effect, the measure additionally strengthens our thinking that the current conditions of negative or low interest rates will continue to prevail for some time.

The current orientation of monetary policy is also exceptional from the historical aspect. Periods of such low or negative interest rates, already lasting for a long time and across the larger span of the yield curve, cannot be found in history. Due to these very facts, we are aware that the space for adopting further instruments is very probably dwindling, and could lead to a situation where the effectiveness of the instruments is even smaller, while their negative impacts will become bigger.

For this reason we are emphasising the urgency of monetary policy being joined by other policies. We realise that through monetary policy alone (as would be the case with each individual policy) it will be increasingly difficult to achieve the desired goal. Here we have in mind principally measures of a structural nature and fiscal policy, which are closely intertwined. We are talking therefore about measures to increase the potential for economic growth, associated with an increase in productivity and a response to demographic changes.

In the area of fiscal policy, where again I am not just talking about Slovenia, but about the wider European area, we need above all to take advantage of the fiscal space available in certain countries, and thereby boost demand and investment activity.

Meanwhile the stabilisation of economic conditions would be even more effective, and especially faster, if we had across the EU additional instruments for a common fiscal policy, regarding which on the EU level there have been lengthy discussions, but no political will to adopt them (yet).

Before I close, I should mention one other consequence of the current orientation of monetary policy. In circumstances of high liquidity and low interest rates, banks in the euro area are seeking alternative possibilities for investing surplus liquidity, which could improve the position of banks, but could at the same time lead to more risky investments or to increased risk to financial stability.

In the most recent period a lot of national central banks have therefore bolstered their macroprudential policies. The experiences in these countries differ, but it is true that they also use differing instruments. Currently around 20 countries have such instruments implemented, including Slovenia. The measures adopted at the Bank of Slovenia are a response to the growth in consumer lending, which in our opinion could pose a risk to the financial system that is no longer acceptable to us. We see the greatest risk as lying in an extension of the maturity of loans and a growth in their amounts.

Of course in terms of the entire euro area and its financial stability, all these macroprudential instruments are important for us to maintain a functioning system of transmitting our instruments and thereby the effectiveness of the common monetary policy.

A special feature of the events we are witnessing is on the one hand the reasons for the slowdown in growth, which are entirely different from those of past periods of cooling. On the other hand the monetary policy response with negative interest rates and other unconventional measures equally signal a deviation from the usual responses of central banks in the past. For this very reason it is vitally important that in our efforts to improve the macroeconomic situation we use all available policies in a coordinated manner. And most importantly, that we do this in a timely fashion.

Brdo pri Kranju, 8 November 2019