The ECB’s Former Vice-President Explains The Historic Step That Europe Just Took

from some of our episodes. You know, obviously we talk a lot in the FED context, in the US contact, and of course, uh, you know, talk plenty about Hong Kong and Asia and Asian supply chains and China and so forth. It feels like we focus a little bit less on how this current crisis is playing out in the European contact. Yeah. I think that's right. I guess the implication is that maybe this has been unfair are in some respects because there has actually been something very

very interesting going on in Europe at the moment. Yeah. I mean, for one thing, you know, there's a good argument to be made that Europe, at least relative to the US, if not necessarily Asian countries, has done a pretty decent job overall of suppressing the virus itself and you know, for years during the Euro Area crisis, there are always people like fiscal policy. Fiscal policy, that's what's missing. You've got to spend more. You gotta get the Germans

to spend more. And uh, you know, maybe this time it looks like they're actually doing Yeah, that's exactly what I was thinking. So we had the announcement of a big deal seven hundred fifty billion euros worth by the EU to fund Um, a sort of long term recovery fund for the Eurozone. And that's a big deal because, as you point out, everyone's been talking about fiscal stimulus, but it looks like the Eurozone is finally going ahead

and doing it right. And so this of course raises questions and it's a theme that we've definitely had a lot on our podcast, which is does this augur something bigger for the post crisis period. So of course it's well known that, you know, there's a lot of money being spent by governments all around the world, including the US.

But the question mark is, Okay, when the cute crisis phase is over, the government's just retrench or does this become a sort of new macroeconomic stabilization model that's a theme that we've hit dozens of times, but it's particularly important in the European context, I think because people have sort of identified the lack of fiscal burden sharing is sort of a basic architectural tension or flaw within the eurosystem. Yeah,

I think that's exactly right. How does the I don't want to say the intrusion of fiscal stimulus, but how does the arrival of fiscal stimulus on the scene actually reshape the way that monetary policy works? And I guess we should also mention that the e c B is also in the midst of another really important project, which is rethinking, um, how it targets inflation. So we have all of this going on simultaneously, real existential questions for

the role of the European Central Bank. Absolutely well, I'm very excited. We have a fantastic guest to talk about all of this. We are going to be talking with Vitor Constantio. He is the former Vice president of the European Central Bank from two thousand and ten through May. He's now a professor at Navara University in Madrid. The perfect guest to discuss all this. So, without further ado, let's bring him in a vito or thank you very

much for joining us. So are you happy to not being a policy maker in this time or do you do you miss being at the ECB during such an extraordinary moment. Well, it's always difficult to get out of, you know, executive responsibilities, and I need them. Of course, I could not say that I am happy to be out. For unfortunate circumstances of the COVID, the shock. We are

again in a very important period of policy making. But fortunately Europe has been doing well I think in these episodes better than in the previous episode of two thousands tend to two thousand twelve. Just to start out with walker thing, the significance of the deal that was agreed, the seven hundred billion euros. You tweeted about it. Clearly you think it's important. What's the significance, Well, it establishes

for precedents that are very meaningful. In the first place, um, it involves a decision to issue common European depth that can aviation will issue seven fifty billion of debt to fund these program and that's the first The second point is that this is going to be distributed in the

form of budget transfers and not loans to the countries. Third, it's a big program to implement what it is a European fiscal policy stimulus to address a recessionary phase in the European economy, and that's also the first time that

this happens at this level. And fourth, the distribution of the public transfers, which correspond to a little more than half of the seven other than fifty billion, is in a way that it is not proportional to the size of each country, but indeed benefits more the countries that have lower level of living and higher unemployment. So there is a convergence play. There is a solidarity aspect of this that it's also quite new in terms of transfers.

To give you two examples on a proportional basis, Italy would be entitled to fifty billion, but they are getting eighty billion, whereas Germany would be entitled to ninety six billion in proportional terms, but are is getting only twenty seven. So these four points put together constitute indeed very important precedents and perhaps, and we all hope so that it will be a sign of things to happen if again there will be a stressful situation in the European economy,

and that's a very important element for everyone. The notion that when there is a very stressful socio economic situation, Europe steps up and takes decisions to fight the the recession and does not leave behind any of the member countries. It's a big message for the future, and I think markets are really beginning to interiorize what these means, and we see that already, but it will take time, of course, perhaps for the markets, particularly Anglo Saxon markets, to overcome

the lingering doubts about the European project. So you mentioned some really important things for the first time, sort of joint that issuance is happening. Also the fact that Germany is going to bear more of the burden or the idea that their economy is more robust. There will be these transfers. But people are calling this for years, like ten years now. People say Germany needs to spend more euro bonds, Germany needs to spend more. It never happens.

Talk to us from your perspective, having been an ECB policy maker, about the pace that Europe operates, why does it sort of from the outside, it's like, oh, this took so long, ten years. Everyone knew this needed to happen. What is it about Europe that these things tend to unfold seemingly quite slowly over a long period. I don't

even know. The initial design of our monetary union was under the influence of what was the macro economic thinking of the time, and particularly Central European economic thinking, and that maintained that it would be enough to have monetary policy as a macro stabilization tool, and that second, it would be enough for monetary policy to cater for price stability in order for the economy to work smoothly and progress.

A great believe in the private sector and the market economy, and so no one was aware that facing big economic shocks as the one in two thousand and eight and nine, more would be needed. Initially, of course, because there was a big pressure on the banks UH and the banks

had to be helped by the public sector. There was indeed some increase in deficits for that purpose, but very quickly since the twenty meeting in Toronto, there was physical retrenchment and as a result we had in Europe in two thousands, eleven and twelve we had a double deep second recession that no other advanced economy or region had and that was the result of this thinking and also the fear of Central Europeans that if more lacks fiscal

policy in member countries would be allowed, that could result in the future to more need of assistance, and they didn't want it. So everyone was a little blocked by the initial rules and it took time then even for us at the ECB to be able to start quee, which we did only in January two thousand fifteen, as you know, much later than other major central banks. But

lessons were learned from that episode. I believe, especially that the double deep the second recession was the result of too much physical consolidation in all member countries at the same time. So this time the reaction was different, which was of course also helped not only by lessons learned, but also by the fact that this was a symmetric shock.

It was an act of nature which was eating all countries in the same way, and no country could be blamed for this shock, so that helped also the response to be quite different. And the third point, which I think it's also very important, we are in a very different geopolitical situation, and so in Europe, starting with German

but but not only Germany. We are now more aware of the need of Europe acting to get there, to protect and expand its sovereignty, to be able indeed to stay on its own feet, as justl America said some time ago. And this awareness increases the sense of collective responsibility for the whole and that also it's a big

driver behind what is happening. This new awareness that Europe has indeed to deepen its integration in order to survive better and prosper in a new international situation where the pressure is coming from Russia, from China and unfortunately now also from the US, have to be considered as real

and serious. M hm. Since we're talking about that shift in mindset, if we if we zoom in on Germany in particular, I'm just curious, why do you think or what is it about either the German economy, the structure of the economy, or the German mindset that made them so resistant to fiscal spending or you know, establishing some

sort of your zone wide federal type deficit for so long. Well, it was indeed their owned domestic approach for four years, which it's called or the liberalism in the sense indeed that the central bank and monetary policy taking care of price stability would be enough because the rest of the economy would work well on its own, and it has worked well for for them for quite some time. But they reacted to the shock, to the crisis, to the

banking crisis very fearful of what could happen. And we saw that at the time because think for instance, since nineteen sixteen nine until two thousand nine, Germany add in its very constitutional law the principle of the Golden rule for physical policy, meaning basically that investment expenditure would not count for the physical rule. They change it into thousand nine, introducing an overall that break as it is called, on the overall structural deficit and no uh specific treatment of

investment whatsoever. So they tightened the physical rule precisely at the peak of the crisis of oh eight or nine for them, and then of course this was exported three years later to the European Physical Rule under their influence, of course in a softer way than the rule they have. But it shows that they react very fearful to the

shock at the time. Lessons were learned, I think because they themselves last year or rather this year, had to break in a way that rule in order to expand their own physical policy in response to the COVID shock.

This text time, but lessons, lessons have been learned, and we see everywhere for many reasons, a return of physical policy, not only because of short term reaction to conjunctual shocks, but also that in the in the context of the second stagnation phase, that advanced economies are going through fiscal policy as a unsubstitutal role to play. And finally there

is a recognition of that even in Germany. So do you feel this is a never going back moment, as in now we have established or now Europe has established this fiscal policy mechanism, some precedent for burden sharing. That I feel confident, at least for the time being and for years to come, this is going to be a part of the talk kit. Well, no one can predict the future. Of course, this will be operational for a number of years because it will take time to implement,

and then the economy will improve and so on. But indeed these shows that there is a new awareness about the importance of keeping Europe really covisive, which is even more important in terms of having a monetary union. Now, the big cements that we have in the European project is indeed the monetary Union and the europe because it's objectively, i would say, a practically unbreakable experience. And then it means that if there are stresses, if there are shocks,

they have to be coped with. This president shows that there is this collective sense of responsibility that I am sure will happen again if there is a major crisis. This does not mean that, you know, we are going to have a physical union around the corner. It's not the case. It does not mean that other institutional reforms are going to happen in the visible horizon. But indeed is a game changer and the result of the new situation and of the lessons learned from the previous crisis,

and that will not, of course go go away. So we have this uh new or growing recognition of the importance of fiscal stimulus, not just in Europe, of course, but in a lot of other places um specifically the US. I feel like we talk a lot about the need for fiscal stimulus, but we don't talk as much about what that fiscal stimulus should actually look like. So when

it comes to the European Deal. What is the best way to spend that seven fifty billion euros and what kind of spending I guess would promote long term economic recovery the best it it will be spent mostly on toblic investment by the Member states. And there is already a rule principle in the decision of the European Council that says that thirty cent has to be used for the purpose of grining of our economies to fight climate change.

So it's already a chunk of the overall amount that has to be dedicated to investments that will help this fight and these objective that Europe has defined to reach a situation of being carbon neutral um and so there are targets, there are milestones, there is a timetable. All that is going to be very present in the national plans that now the member states will have to develop

to use the money. And then there are of course other types of infrastructure needs in all countries that will benefit from from this plan, and in itself it's an element of stimulating aggregate demands. So it will be really going mostly to investment. I hope also that it will help some countries with the lower level of living to have the resources to support some segments of the population that are not so well protected by the programs that

already have been put in place. I'm thinking about gig workers, uh, precarious workers, say in performing arts and other types of things that do not have a regular employment and were not the object of the peneply of measures that were put in place to help everyone in these initial stages of the crisis. So and that of course also is important for stimulating aggregate demands. So it's basically the eighth anniversary.

I guess we just passed it of when Mario Droggi, who is the president of the e c B, when you were the vice president, he had his famous whatever it takes speech establishing that the ECB would, theoretically, if needed, backstop government debt. And we saw spreads on peripheral debt close very sharply, and that was sort of the beginning of the end of the Euro Area crisis. Are we ever going to get back, in your view, to the sort of boring old central banking of how we used

to think about it. It's like occasionally high grades, occasionally cut rates. No one ever talks about balance sheets or anything like that or is that gone for good? And if we do have this world where fiscal plays a much more active and aggressive role, what is the future

of central banking even outside of a crisis. Well, I would say that it is normal that in certain situations of recession or in the case of a monetary union, of fragmentation and beyond what would be justified by the situation of fundamental values, that in those cases there is a implicit collaboration between monetary policy and physical policy because the stance of both policies converge in those situations like the one we had before and particularly like the one

we have now, because of course, this time, the phiscal policy was more important to respond to this type of shock in order to maintain income of the people suddenly unemployed or lockdown, and only physical policy could do that, and also to help firms to survive these this period, and monetary policy took care both of normalizing financial markets, avoiding a financial crisis and helping credit supply by the banking sect. So the division of labor was easy to

define and the stands was convergent. But let's not extrapolate that for every situation, because the test of this sort of new relationship that people talk about. The test will come one day when inflation may increase, and then of course the central bank has to respond to that, and that's the crunch moment when we will see how this this go. But we are ears from that challenge to to happen, and the degrees of collaboration have varied among

the countries. I would say that it's important to underline the following. Neither in the Euro Area or in the US there was any degree of full fledged, properly named monetary financing. What the central banks are doing, it's not monetary financing. The Bank of England did a little bit of monetary financing by giving a bridge credit to the to the Treasury, but neither the e c B or

the FED really did monetary financing. So when I also to to take that into consideration, although loosely, of course, the media are calling what the central banks are doing as monetary financing, but it is not so okay. I wanted to pick up on that inflation point because, as we mentioned in the intro, the e c B is currently thinking very hard about how it approaches its own inflation target, which um I think the exact language is

below but close to two percent. Do you think, I mean, there seems to be lots of confusion about why central banks around the world haven't been able to hit those inflation targets in recent years. And do you think that central bankers understand how inflation works? Yeah, good question, of course, and it would be a very long answer to address aspect for it. But yes, Now the question is starts

with the following thing. You know, Milton Friedman instilled in the minds of many economists and many central banks at the time when he was writing that inflation is always an everywhere a monetary phenomenon. That's what he said, and by that he meant that inflation was determined by the development of monetary aggregates. And two in the case of US,

I am three in the case of you. And so the idea that the central banks could fine tune the inflation rate, not immediately, not you know, in a very short term horizons, but you know, within two, three, four years, could indeed put inflation at whatever level they would wish. Well, things proved to be much more complex than that, because inflation depends on the overall relationship between aggregate demand and supply.

Uh uh, and that is influenced by many other factors, including of course physical policy, but also including external shocks that microeconomics, particularly in the US, which has dominated the field, of course for all the reasons we know, tended to be thinking mostly in terms of closed economies because the US being so big, you know, the external sector was not so important or seen as so important. But the point is that inflation depends for long periods of time

on many other things. Friedman himself was interviewed in the two thousand about Japan, where there was the beginning of the deflation, as you know, and he answered, well, it's very simple to solve it. You just have to have the central bank buying sovereign bonds. That will expand money and money aggregates and the problem will be solved. Well, it was not followed at the time, but some years later it was followed. Now the Bank of Japan has bought a little more than one of GDP of Japanese

public debt and inflation has not responded. So it was wrong clearly, and we do have now, you know, many reduced form regressions to forecast inflation that take into account the import prices, which includes of course the change rate that include also possibly other cost shocks that may occur, and that include expectations and inertia. That indeed, the economic agents, both households and firms, when they decide prices, tend to

have certain inertia in taking those decisions. By thinking about what has been the progression of inflation in previous years, and if you put all these elements in a way to forecast inflation, you can have relatively reliable ways of forecasting inflation where the slack of the economy is also there. Of the domestic it's also there. It's still meaningful, but of course during certain periods is overwhelmed by the effect of the other drivers of inflation. It has not disappeared.

What has disappeared, and it's also in all the media, is that the initial Philip's curve, what's just a relation between in this case wages and unemployment, that simple bivariate relations as indeed collapsed UH and a more complex way of UH forecasting inflation, which the economy is also called Philip curves. Adding to the confusion of all these discussion. The slack is still there, but it's also a factor. And as you see, monetary aggregates are not there any anymore.

So it has been difficult then, just by monetary policy to change inflation to the level in a period where globalization and the entry of more than one billion Asian workers with low wages in the world economy put a lot of pressure on declining prices of many industrial products, and that was a major shock that affected the overall economy of inflation in all our countries so much that the pure domestic slack was not so much in command

of inflation as it was in the past. And that, as of course, is still true, and that's why central banks indeed have not the easiness the discretion to put inflation at whatever level they want within the period of say five years. But that is not imply that monetary policy had a big contribution to avoid even a worse scenario of deflation, and that was avoided in all advanced economies with the exception of Japan, and that indeed the role of the central banks has been very important, sometimes

however not helped. That's particularly in Europe by what fiscal policy was doing. M M. I wanna I want to expand more talk more about inflation and the role of central banks, and thinking back to I mentioned Mario drag whatever it takes, and part of the innovation in his in the logic of that speech was that sovereign government bomb spreads should be considered part of the e CBS mandate to narrow because the widening of them were impeded

monetary transmission. So even if there was some technical rule that said the ECB camp by government debt, you could get around it by saying it fits into the monetary policy transmission. Now we're seeing a potential sort of more things falling under the mandate for the goals of the central bank, including perhaps thinking about climate and inequality and other sort of economic concerns that in the past may not have been as strictly narrow as just keeping inflation targeting.

Do you see any risk with this? Do you worry about the ECB specifically or other central banks taking on too much potentially? Well, yes, those are say subordinated targets to the role that the central bank must perform in our economies. They are always there. They are also in the treaty in the our case that says that without prejudice to price stability, then monetary policy should help all

those others. Is that you mentioned in general and that are listed of course in the treaty itself, but there are subordinated goals and cannot be the probate dominant goals because it would make really no sense because in a way, what central banks can do, for instance, in what regards climate change is not very much. Of course, central banks have a portfolio of securities, but nowadays when they buy and that can become and should become greener and certainly

avoiding the more brown sort of securities. But if you look to the numbers after that effort to make the portfolios greener, you see immediately that the overall effect on what is at stake with climate change is indeed and

perhaps unfortunately, but it's indeed small. Regarding inequality, t well, it's a mixed thing because if one end, it is true that the purchases increase the price of risky assets, which are mostly held by m I income segments of the population, they also have increased the price of housing, particularly in Europe, and housing is the element of overall wealth in our economy, is that is bigger then financial wealth and particularly stocks, and that stock of housing is

held mostly by the middle class, and the price of those assets has increased as I made a speech about that, and there are there there are two papers published by the ECB later and also pointed to those factors. And also there is of course the effect of expansionary monetary policy on employment, on reducing unemployment, and that is a very powerful way of also of taking care of inequality.

But monetary policy by definition cannot do everything. There are trade offs, and so monetary policy has to have priorities, and it test priorities defined by the law, and so what it can take in from those other secondary objectives important as they are for the society at large, there are other public authorities that are more responsible for that. Take for instance, climate change. It's certainly for the government to step up their initiatives to take care of that

big objective. So I see these as indeed a consideration which is there and should be there, but cannot be predominant. The same for instance regarding the so called zombie firms. Again it's a potential problem, but it's not for monetary policy to have as a priority to think about the fate of weak companies. Monetary policy targets price stability, economic growth, that's like in the economy, and not other things. And

there are trade offs. Zombie firms are more the purview of the way banks manage their credit risk by not ever greening and not continuing to land to problematic firms, than to monetary policy, particularly at this moment. Also, the amounts of liquidity and capital in the banks imply that the keeping some weaker firms during this period is not crowding out the possibility of banks giving credit to all the good firms that have good projects and intentions to

to invest and to expand. So, just to give you three examples of some subordinated the concerns that the central banks should not ignore but cannot become a priority. UM. I have a related question on the sort of modeling of monetary policy with politics. One of the options when it comes to reviewing the ECB's inflation target is to create a flexible target, which would allow the central bank

to either undershoot or overshoot inflation as needed. And I'm curious to get your views on if the e c B did adopt that kind of flexible target, and the target therefore becomes discretionary, then doesn't that sort of make it a political choice to either undershoot or overshoot inflation at a particular time, and does that endanger the independence

of the central bank. I think that the target for inflation adopted by central banks should be indeed symmetric, because, as we all know, when there is a supply shock to the economy that in some cases may lead to an increase in inflation, like a big oil price increase, say, monetary policy should not respond to that immediately because it cannot change that situation and it would only aggravate the recessionary effect on the domestic economy of that oil price

increase that is well known, which means that in those periods of supply sharks, inflation could be accepted to be above target, and should be accepted to be above target. So it should be symmetric, and in my view, the best way to have it is what say the fat as now, which is to say, well, we have this objective one number. It's two percent in the definition of the fat, which is not headline inflation as you know, but okay, it's two percent, and then it's symmetrically interpreted.

It can be slightly below, it can be slightly above according to the types of shocks that the economy suffers, and of course it cannot be kept exactly at two percent all the time. So some economists and central anchors argued that more explicit flat flexibility will be helpful, for instance by adopting a well defined branch around two and

and put the numbers of the range. I am against that because that creates uncertainty and also opens the door to the possibility in for instance, situations that are clearly recessionary and inflation is weak, if it is within the banding, within the range, then it would consider to be all right and the central bank would not move policy, which

is wrong. So I am against ranges. A way of also then justifying more flexibility is to go for the so called averaging inflation targeting that there is a number, there is a target, but it has to be attained over a number of years to allow precisely years where

inflation is below and then years where it is above. Well, it's enticing, but again I also do not agree too much to that because it's too precise and will tie the ends of central banks perhaps too much when they say that the six years of the averaging will will come and what to do and then possibly fail and changing into averaging inflation rates inflation target would not by

itself move expectations of inflation. It's just not because central banks would go for this that now everyone would start to take decisions in the economy as if inflation is indeed going to increase according to the new averaging target.

It's not going to happen that way. So I am against, but I see that it may happen in the US at least, you know, it was very much on the cards before these the crisis and may come again if it comes, and if the US would adopt that explicitly, that would have a big impact on other central banks, and then perhaps the e c B would have also

to adopt that. But it's not something that I favor to start with, but I of course could accept for the reasons I mentioned it's better to have one number and the notion that it is symmetric target to manage monetary policy. I thought I said something really fascinating there about how if the US were to adopt this overshoot or catch up strategy, that might have an influence on

other central banks. And I just looked like, as someone who's attended all these ECB meetings starting from when you were the Governor of the Bank of portugals of eighteen years worth of meetings. How does change happen over time? Do people I think new ideas, do discussions push people into new areas? Or is it about simply the composition of the ECB changing over time as people swap in

swap out roles. Lets us a little bit more about how sort of evolution of thinking works at the ec Opinions move starting in academia, for instance, and events also determine change of mind in people certainly, and for instance talking about averaging inflation targeting, there is one thing that is now in the mind of every central bank in advanced economies, which is that after this big shock of the virus, there will be scars in our economies and

unemployment that will take time to be reduced two previous levels, which justifies that our economy is from a macro economic policy perspective, should be run as high pressure economies, allowing a little bit of over eating in order to correct quicker the scars in unemployment and in the productive capacity that will be destroyed during this period of the virus crisis.

And these idea of allowing that a period after the crisis of you know, eye pressure of potentially a little bit of over eating is well justified by adopting averaging inflation targeting, which provides then a more explicit intellectual rationale for that way of managing and accepting these development of of inflation. And so it may happen, and that, of course then may be shared more widely than just say in the fat, if indeed the fat moves that way.

But it is in my view true and it will happen that major central banks will allow some degree of you know, accommodation of eye pressure economy and potentially a little bit of inflation during the immediate period following these crisis. I have a slightly weird question, but in the current environment, it does feel like there's a lot of outrage directed

at central banks for a variety of reasons. But I think one of those reasons is people feel that the central bank is sort of forcing rates ever lower, eroding people savings, possibly inflating bubbles in the stock market, things like that. Do you what's your response to people who criticize the central bank for doing that kind of thing. And also, this is the weird question, but do central banks actually have the power to set interest rates wherever

they like? Well, central banks, of course influence very much shutdown rates, but now via purchases also a degree of effect over medium and long term rates, particularly because the markets are afraid of central banks and move in the direction of that those purchases more so than what the amounts that the central banks are indeed buying would objectively objectively justify. But then there is then an influence also

on medium imment rates. But it's not true that the central banks totally determined interest rates throughout the spectrum of maturities, because many other factors enter the behavior of investors uh and they know that the in the end, the amounts that the central banks could mobilize everymite in relation to the size of those markets. And let's recall that what counts for this purpose in asset markets is the total

stock of the assets that potentially can be moved. And as James Stubborn always said, it's the stock that counts for the development of pricing, and not just the flows of what the central banks are buying, and and and

and so on. So because at any moment investors can take views about the future that will move big chunk of the stock that is there, So there is no full control of medium and long term rates that are then driven by other factors, but there is certainly an influence of course that's now become an instrument because we reached the short term policy rates that are very close to zero, and then there is this limit and the need then to intervene more along the maturity spectrum um

and that's what Quee in parties doing, is doing other things, but it's also doing that. We've been talking about these sort of big picture questions about Europe, the future of central banking, etcetera. Just to bring it back to the current moment, when you look at Europe, do you feel confident that the existing fiscal package and the existing stance of monetary policy are appropriate to get the economy roughly back to where it was pre crisis in a decent

period of time. Where do you think ultimately they all have to be yet furthermore done on the fiscal or not in tern front. Well, we are all dependent on the virus and on the possibility of a second wave that would then require big stimulus, both monetary and fiscal.

But forgetting that for the moment, I would say that perhaps next year there will be needed a little bit more of monetary policy fiscal is already very much committed, and deficits will continue to be high next year, not as high as this year, but still high, as the i m F has forecasted amazing twenty three point eight percent deficit for the US this year and minus twelve point four for next year, and that's before the new

package being discussed right now. And in Europe deficit this year of eleven percent and five point three next year. It can be a little higher than ext year because one thing is that governments gave a lot of guarantees to bank loans and there will be defaults and pls UH in many loans, and some of those guarantees will be activated next year, and that will increase the deficits next year. So the stimulus will continue, the deficit will continue.

There is the new package, and that should be indeed enough for the recovery, which nevertheless will be in my view sluggish. I don't anticipate that we will reach the same level of GDP of two thousand nineteen before twenty three, meaning the end of twenty two perhaps, but certainly not before UH and perhaps even the end of twenty three.

So it's a sluggish recovery. Because there has been a structural decrease of demand for many sectors of our economy, and the levels of demand for those sectors are not going to come back anytime soon to the same levels as before, and that will affect, of course, uh growth because creation of new productive capacity in other sectors will not be as quick as to upset that shock to the supply side of our economies, including international supply chains

and all that. So, and also because consumers will be increasing their saving rates for a number of years. It happened in two thousand and eight after the shock of two thousand and eight, it will happen this time, perhaps even more after the experience they had this time. So

that altogether creates the conditions for sluggish recovery. We have to be aware of these limitations, but certainly this recovery is going to happen, but it will take you know, at least a couple of years, if not a little more, to come back to the levels of two thousand nineteen. And of course we will never come back to what would be the trend of growth of our economies if it had continued without these big shock the same as it's happened with the shock of two thousand eight. Vitor,

that was fantastic. Really appreciate you joining us, Really really enjoy getting to hear from someone of your perspective. Thank you. It was a pleasure too. That was really great. Thank you, Tracy. That was a real treat getting to talk to someone who has been so involved with policymaking and some of

the biggest issues of the economy basically two decades. Yeah. Absolutely, Um, you know that's saying to be a fly on the wall of you know, room of the ECB meeting, and he's sort of been in well a lot of them, hasn't he. According to our colleague Lorcan, who knows the e C be better than basically anyone else I know, he never missed a meeting in eighteen years, so wow,

that's quite a record. But I do think it's interesting to talk to him at this particular juncture because, of course, as we've been discussing, it does feel like the very nature of central banking and monetary policy is beginning to change. It feels like there's there's sort of a handoff from monetary policy to fiscal stimulus. But at the same time there's the question of how monetary policy is going to

interact with that stimuls Yeah. I think what's interesting to about this moment is that, so obviously, the COVID crisis comes along and throws everything into disarray and policymakers scrambled to new tools. But I think what's really striking is that the sort of intellectual um groundwork for a change was in the works pre COVID. You know, this idea of okay, more us a consistent um active role for

fiscal policy. People have been talking about this for a while and that's been a theme of some of our conversations. So it's kind of like the intellectual um, you know, terrain was shifting, and then we got the moment with the COVID crisis where suddenly it's like, okay, we have this has to go beyond papers tweets, to talk and to actually start thinking about how we're gonna put this into practice. And so you know, that's sort of it's

a moment for multiple reasons. Yeah, that's true. Although one thing that strikes me whenever we have these conversations with economists is just how much of economics is still uncertain. So, for instance, why is inflation not necessarily behaving the way a lot of people expect it to. Or why is the Phillips curve flat? Uh? Where should the natural rate of interest be? Is there such a thing as the

natural rate of interest? I feel like these are all really big questions that listening to VI Tour, you can tell that they govern a lot of his thinking and presumably a lot of other central bankers thinking, But there

are so many uncertainties swirling around them. Yeah. I was really glad that you asked that question about a sort of theory of inflation, so to speak, because it's such a profound question because if you have all these central banks and they're like targeting you know, the East the US as a dual mandate, but technically the ECB just has one mandate, uh, the inflation mandate. But if you set out this mandate, okay, you have to hit this, and yet no one can really articulate what drives inflation.

That just to be against to like such a core question about like what are what are central banks even doing? If the thing they have to target they don't know how to get there. Oh yeah, absolutely, I find inflation as a subject just really fascinating. Also how they measure it. I think a lot of people in Europe right now especially, would argue that living costs are going up even though inflation is still persistently under target. But it okay, getting

slightly off track. That is a topic for another All Thoughts episode. It could be a serious Actually, oh yeah, let's do an inflation series. Yes, yeah, they'd be a good one. Um, okay, just you know, like just what Vitour said about, Oh, Milton Friedman, who is sort of the godfather of how modern economists thought about inflation for years, and he's like, oh, if Japan doesn't have inflation file the government debt, it just works. It really sort of shows how much work there is to be to be done.

Still on this topic, Yeah, that was a good annectote. Okay, shall we leave it there? All right, let's leave it there. This has been another episode of the All Thoughts Podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway. You can follow me on Twitter at the Stalwart,

and you should follow our guest Vitoor Constantio. He's on Twitter at v m R Constantia and follower producer Laura Carlson at Laura and Carlson, all of the Bloomberg Head of podcast Francesco Levi at Francesca Today and check out all of our podcasts under the handle at podcast. Thanks for listening.