ECB could live with some inflation overshoot to help employment - Olli Rehn
By Balazs Koranyi and Francesco Canepa
FRANKFURT (Reuters) - The European Central Bank should follow the US Federal Reserve by putting more emphasis on welfare in setting policy, even if it means inflation temporarily exceeding its target, said Olli Rehn, member of the ECB Government council.
The Fed recently said it would run the job market hotter in the future to help low-income families, an unusual foray into social policy that has historically been banned by central banks.
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However, Rehn argued that the new economic realities that guided the Fed also apply to Europe. Low unemployment is no longer at the expense of rapid inflation, so central banks can afford to promote social inclusion.
"If this is the case from an economic and social point of view, it makes sense to accept a certain period of overshooting taking into account the history of the undershooting," said Rehn, the Finnish central bank governor, in an interview.
Rehn is one of the first European policy makers to publicly discuss the social impact of politics, especially on low-income workers. His comments suggest a departure from the narrower interpretation of the ECB's anti-inflation mandate.
French central bank chief Francois Villeroy de Galhau also recently argued that in addition to inflation, the ECB should also consider employment and income distribution when setting policy.
It is a guiding principle of modern central banking that inflation accelerates as unemployment falls, so central banks need to cool the labor market to stop inflation.
While the Eurozone created around 10 million jobs in the seven years before the coronavirus, inflation remained well below the ECB's target of just under 2%, despite extraordinary incentives.
Rehn added that the ECB should also explore the merits of offsetting inflation losses, as the Fed plans to hit the average inflation target by allowing inflation to rise above the target after a period of failure.
"While the price level targeting proposed by (former Fed Chairman) Ben Bernanke or the average inflation targeting can be criticized from the point of view of communication, it is nevertheless worth investigating in detail in this context," added Rehn.
The ECB is currently reviewing its policy strategy and is expected to refine its own target later this year or early next year.
While the discussion is still open, Rehn advocated setting a single point target, discarding the current phrase "below, but close to 2%" as this gave the impression of asymmetry.
"It would also mean that we would accept that inflation could exceed the point target or fall below the point target for a period of time as long as we are on track to get to our medium-term, symmetrical price stability target," he added.
Rehn acknowledged that a greater emphasis on social issues could at some point run counter to its primary inflation mandate, but said that such a conflict would extend well beyond the medium-term, the bank's usual focus horizon.
Short-term prospects run the risk of exceeding the ECB's cautious expectation as a new wave of the pandemic forces governments to restrict everyday life more, Rehn said.
"Some recent indicators, particularly from the service sector, have been a bit disappointing, adding to the downside risk to the economic recovery," he added. "The shape of the recovery, in my opinion, can best be described as a truncated square root."
He added that the first growth and inflation forecast for 2023, due to be released in December, will be crucial, but inflation risks are on the downside and it is better for the ECB to play it safe in providing incentives to go.
(Adaptation by Larry King)
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