A stable currency for Europe required a firm foundation, Bundesbank President Joachim Nagel stressed at an event held in honour of former Bundesbank President Karl Otto Pöhl. The Eurosystem was well equipped to maintain stable prices in the euro area due to its political independence and its clear mandate, he explained, but these institutional pillars had to be firmly anchored on a bedrock of sound public finances, integrated markets and public confidence in central banks.

Unsound public finances pose a threat to price stability

If the debt burden grew steadily in size, people might lose confidence that the government could continue to shoulder this burden without “inflating it away”, in Mr Nagel’s view. Should inflation expectations increase as a result, inflation itself could rise in turn. Effective fiscal rules therefore had to serve as guardrails for sound public finances, the Bundesbank President said, enabling monetary policy to safeguard price stability with as little cost to the aggregate economy as possible.

„Everything points to the benefits of a genuine pan-European capital market“

Alongside sound finances, the Bundesbank President underscored the importance of European financial markets being as integrated as possible. This would help ensure that monetary policy impulses had equal effect throughout the euro area and make it easier for enterprises to find the financing that suited them best. In addition, in the event of an economic shock in one Member State, integrated financial markets would make sure that downstream costs were cushioned across the currency area, contributing to the stability of the economy as a whole and the financial system.

The EU had set itself the goal of creating a capital markets union a decade ago, Mr Nagel continued, but progress on financial integration had been disappointing, according to a report by the ECB. A host of measures, some encroaching on national law, was needed to achieve the objectives. Areas for action included, for example, better-coordinated national insolvency and accounting rules. If real progress is to be made, all parties will have to pull together, i.e. the Commission, the Parliament and the Member States, Mr Nagel said.

Independence requires public confidence in central banks

The Bundesbank President stated that the Eurosystem central banks had been intentionally granted independence from politics so that they would be able to discharge their mandate free from political influence. However, the public’s trust should not be taken as a given. Rather, it had to be earned anew, over and over again. Moreover, confidence in central banks’ commitment to maintain stability would help to anchor inflation expectations and thus make it easier for central banks to achieve their monetary policy objectives.

With regard to inflation developments, Mr Nagel was of the opinion that the euro area was making good progress: If we look through the monthly ups and downs, we can see that price stability is no longer a distant prospect, but the last mile of the journey still needs to be navigated. In December, the ECB Governing Council would use the available data to assess whether inflation was still moving towards its 2% medium-term target and decide on the key interest rates based on these data. My advice is to remain cautious and not to rush into anything, the Bundesbank President said.

He expressed his view that communicating understandably anchored public confidence in central banks and their commitment to stability. Studies suggested, furthermore, that financially literate individuals were more likely to trust central banks. The Bundesbank thus had a strong vested interest in improving the public’s understanding of money, currency and central banks with its educational resources.