 Welcome back. As you know, the governing council of the ECB has decided to conduct a thorough review of its monetary policy strategy. And we consider this forum, this year in particular, as one way to understand your thoughts in relation to this review, in a way as one of our listening events. The review is currently ongoing and scheduled to conclude in the second half of next year. Yesterday, we had a panel that focused on some aspects of monetary policy, inflation objective, central bank communication. And today in this panel, we will be discussing monetary policy instruments and financial stability. So it is my particular pleasure to welcome the next chair and moderator of the panel, Isabel Schnabel, member of the Executive Board of the ECB. The floor is yours. Thank you very much, Thierry. Good afternoon, everybody. It's a great pleasure to welcome you to the panel on monetary policy instruments and financial stability. This panel will complement yesterday's panel by focusing on another set of topics that feature prominently in our monetary policy strategy review. The discussion will focus on two broad topics. First, the effectiveness and side effects of conventional and non-conventional monetary policy instruments. And second, the role that financial stability considerations may play in monetary policy. In response to falling natural interest rates and policy rates approaching the effective lower bound, all major central banks, including the ECB, have expanded their monetary policy toolkits. While it is widely acknowledged that these non-conventional measures have been successful in stimulating aggregate demand and putting upward pressure on prices, it is also feared that they may make a rise to side effects and that these side effects may increase over time. These concerns are all the more important in the face of persistently low inflation and the underlying structural forces which make it unlikely that these measures will be discontinued anytime soon, so that non-conventional tools have actually become quite conventional by now. In light of this, it is important to reflect on the experience with these instruments. One important question is whether the effectiveness as well as the balance of costs and benefits depend on the level of interest rates and on the state of the economy. One prominent side effect relates to financial stability. Through portfolio rebalancing, unconventional instruments intentionally induce higher risk-taking, which supports inflation but may also give rise to financial instability if risk-taking is excessive and if asset price valuations become detached from fundamentals. So one key issue is whether financial stability considerations should guide and inform monetary policy decisions and how these considerations could be incorporated in central banks' monetary policy frameworks. Another question refers to the division of labour between monetary policy and micro and macro-prudential policies. We have three excellent speakers on this panel who will provide different perspectives on these issues. Let me introduce our first panelist, who is Lucrezia Reichlin, professor at the London Business School, who will talk about the role of conventional and non-conventional monetary policy tools and their relationship with financial stability. The panel is scheduled for one hour. Each panelist will have 10 minutes for the introductory remarks and the remaining time will be allocated to the general discussion. Please remember that you will have to raise your virtual hand if you would like to ask a question and you may of course already do so during the presentations. Lucrezia, welcome to the panel. The floor is yours. Well, and it's a pleasure to be here. Thank you for asking me to contribute to this panel. Monetary policy and financial stability, this is a very old topic, but as everybody has pointed out, we are now in a new world. This is new in the economic context as we have seen in this discussion, low equilibrium interest rate, new risk including climate, legacy debt, but it's also new in theory in the way in which we understand transmission mechanism. We are not in the world of the Modigliani-Miller anymore and it is new in practice because as Isabella just reminded us, we have now new tools, central banks have new tools, so they have large balance sheets which they use proactively. And there is no way back. I mean, at least it is not likely that we will be in the old world, old world anytime soon. So the question is what is the relationship between monetary policy and financial stability in this new world? What has changed? So I would say as a matter of introduction that if I had to think about the long run, my answer would be very similar to what I would have given you maybe 20 years ago, or price stability should be consistent with financial stability is kind of the bedrock, but it is a necessary but not sufficient condition. So there is role for regulatory policy. So monetary and macro-predential policy should be natural complement. I mean, this is a truest in a way, but of course it's not without problems and we have heard some skepticism already in the discussion earlier on. In the short run, I guess that the complementarities between monetary policy and especially unconventional monetary policy and financial stability are probably greater than pre-crisis conventional wisdom would have foreseen. In the middle run, in the transition, if this is where the challenges emerge, monetary policy, support for financial markets, may morph into dependence, there could be effects on leverage and so on and so forth. So in order to address this discussion, let me distinguish between two types of policy with a certain abuse of language. I will talk about passive and conventional monetary policies, passive in the sense that the balance sheet of the central banks increases endogenously as a result of this policy. I will summarize them as the market making function of the central bank. The central bank intervenes to support financial intermediation. It becomes a sort of intermediary of last resort and I would say that this policy should be complement to conventional interest rate policy. In general, this policy should be supportive of financial stability since they support market functioning and therefore they should support financial stability. There are plenty of examples in the history of the last 12 years from the early response of the ECB in the liquidity market, but also in the money market, but also some aspect, for example, of the PEP package folding this category. I would call active and conventional monetary policy QE and associated policies. This policy are actually aimed at reducing returns on safe assets, pushing investors further along the risk and the maturity spectrum and they are understood to be substituted for conventional monetary policy when the interest rate reach the fact of lower bound that this is where this balance sheet policy take key key. Here is where maybe the tradeoffs that everybody is worrying about with financial stability are more important. Let me say that to understand these tradeoffs, we have to understand that active policy may consist in a complementary use of different tools, aim at controlling the entire yield curve. We should not think of in terms of just one interest rate but of the entire yield curve. In the euro area, we know that what the ECB itself has called the package, which has put together by the end of 2014, the beginning of 2015, consisting in negative interest rate, asset purchases, TLTRO, and forward guidance. Indeed, it is a complementary use of all these different tools and then there are new tools now or designed to face the pandemic. Given this complexity, of course, the interaction between macro and financial risk is also complex and it is hard to understand in simple models. Now, in order to give a very stylized discussion of that, let me point out that there are two effects that we should worry about. One effect is the redistribution of risk from banks to central banks, governments, etc. The other effect is the total supply of risk in the economy, both matter for monetary policy and financial stability. Now, let me just give you an example to illustrate what I'm talking about. If the central bank buys risky asset and the supply of risk does not adjust, then in equilibrium, agents have to hold the same amount of asset as before minus what the central bank holds. Intermediary, therefore, becomes less risky, but the total amount of risk in the economy is unchanged, is just redistributed. So only if there is a larger supply of risk in the system, there is an increase in the risk in the economy. In other words, the total amount of risk in the economy changes only if the supply responds. And this is exactly what the central bank is trying to induce, to induce the supply response. So because this is what supports the macroeconomic stability. But of course, it could be bad outcomes. One outcome, bad outcome, is that if policy is unsuccessful. So if QE, because of millions of reasons, especially the risk aversion, which prevails in the economy, is ineffective in increasing the amount of risk. The second bad outcome, it could be that the risk that QE or other policy is inducing would create incentives for bad risk. So I mean, if we have to think then of a balance of policy and the conditions of success, I think that there are three relevant questions. The first question is macroeconomic effective, the bedrock. So nothing is in the long run without price stability, macroeconomic stability, we're not going to get financial stability. And so the question is, are the active policy effective in influencing inflation expectation by pushing investors along the spectrum? And here, there are two conditions. One is coherence with other policy, including fiscal policy. Okay, there is a big discussion there. But the second thing that I want to emphasize is the coherence of these packages of no standard policies. So and here, I mean, I want to refer to something about the Adam said earlier on, empirical evidence tells us that the effect of this policy are quite large in the bond market affecting spreads. But the effect on the evidence on how effective they are on macro policies is less obvious. Okay, it's less robust, although if you get a meta studies of what it is around. And you know, then what is the conjecture? My conjecture is that the effectiveness of this policy really depend on the coherence of the package on the transparency and stability of the framework. And this is obviously challenging because we are not living anymore in a simple tail or rule type of policy. And I would like to give you an example here, which is the example of the period between 2012 and 2014, in which it could be argued that delaying QE and getting only some components of this package for our guidance and negative interest rate provided a lack of clarity for the market that was very costly in terms of inflation expectations. Here you could see the five year inflation index swaps for the US and the Euro area. And you can see that this, although there is a global component, no doubt that there is actually a decoupling in that period between inflation expectation in the US and the Euro area, and that this decoupling is something that has been persisted ever seen. So this is the first, so this was the first question, so effectiveness. So what about the second question? The second question is, how the battery is taping be handled with regulatory tools? So do we have another instrument? And well, in principle, yes. So we have this regulatory, so we have macro prudential policies and so on. Of course, this is something that we have to learn how to use and there is a lot of scope for more learning. But also, we have to be careful that those macro prudential policies also have fiscal implications. And so we are talking about a very complex policy mix. The third question is about redistribution. I claim that there are redistribution risks, which implies that this policy involves assuming risk on the balance sheet of the central bank. And the question, therefore, is how can we manage this risk? And here I have just had two observations to offer. One is that provisioning is important to cover credit risk in the central bank's balance sheets. So we have here to reflect about the central bank capital and the rules about central bank capitalization. The rules about redistribution of seniority. All this discussion is relevant here. It should be relevant for the strategy review. And the second is, of course, governance. How do we design a governance that goes beyond these Chinese walls, which was, which inspired the governance that we design in the old world? So let me just finish with one slide. Am I suggesting that we go back to old fashioned central banking in the world of the 50s of the Radcliffe report or whatever? Well, not quite. I think that as my example on 2012 and 2014 suggests, I think that we need to retain the key insight of inflation targeting, which is the key role for commitment to a nominal anchor and expectation management. But this has to be done within a framework that relies on several tools and therefore is complex. And second recognizes the new reality and the need for effectiveness and for stability of the interactions with financial fiscal policy and of course regulatory policy. Thank you very much. Thank you very much, Lucrezia, for these interesting considerations. We will now switch to our second speaker, who is Yun Song Shin, economic advisor and head of research at the Bank for International Settlements. And he will consider the stabilizing role of banks and central banks in times of market disturbance. Yun, the floor is yours. Well, thank you. It's a great pleasure to join you on this panel. I'd like to start with a couple of observations from the stress period in March and in particular, the dash for cash, just to shed some light on the discussions that Marcus will put on the table later. This is a chart from the Federal Reserve's financial stability report that came out earlier in the week. And I draw your attention to the red circle part, which is the very sharp increase in deposits among the short-term funding instruments in the US. And this is an illustration of the dash for cash, where there was, if you like, a surge of demand for money. And I think that illustrates very much the role of the commercial bank, the role of the commercial bank sector as the first line of defense, as an elastic node in the financial system, which can accommodate the increase in the demand for money through money creation. And here's an example. We have a commercial bank on the left and a borrower on the right. And the commercial bank grants the borrower an overdraft, which is to write up some deposits. And then on the other side of the balance sheet is, of course, a loan, because the overdraft is a loan to the borrower as well. And so this very elastic balance sheet is able to accommodate the increase in the demand for money. And what I would point out is that what this shows is the contrast between the elasticity of a commercial bank from the rigid stablecoin or a money market fund structure, where the size of the balance sheet is purely passively managed from the flows that the borrower provides. And we see here the weekly data from the US, where we see the increase in commercial bank deposits starting from the first week of March. And the red dots here are the corresponding increase in the commercial and industrial loans that corresponds to the credit line counterpart to the overdraft. And Isabel, as you well know from our project on the Bank of Amsterdam, this kind of liquidity creation in order to meet a liquidity stress period is not a new phenomenon. And in 1763, during the very sharp crisis that we wrote about, here's an example where the balance sheet of the Bank of Amsterdam surges where it engages in market operations. It actually buys silver and gold coins by creating money, by actually crediting the accounts of the sellers of those coins. And it's a very early example of an asset purchase program, much like a modern central bank. Now, the elasticity of the elastic nodes also are important in the international context. And let me motivate this point with this chart, which comes from our statistical release from our banking statistics. What we saw in the first quarter was a surge in the cross-border positions of the banking sector. And that's highly unusual. What we will normally expect is that during a stress period, we would expect to see a contraction of cross-border positions. But we saw this surge. And in particular, I would draw your attention to the pink and the blue part, which have to do with the interbank positions. Now, what might be going on? Well, if you think about the way that a swap line, the central bank swap line operates, that chart really makes eminent sense. And in this chart, what we've done, and this is a chart that's from a forthcoming BIS bulletin, the left hand box is the United States. The right hand box is the euro area. And in the left hand box, we have the Federal Reserve and commercial banks. And on the right hand side, we have the ECB and other euro area headquartered banks. I would draw your attention to the color code here. So the Fed lends dollars to the ECB. So that's the green box in the top left hand corner, matches the green box on the top right hand corner. The ECB, in turn, then provides those dollars to the euro area headquartered banks. So the blue box corresponds to the blue box that's below. And crucially, what we are measuring is the two gray boxes. So the EU headquartered bank then sends the dollar funds back to either its related office in the United States, or to its correspondent bank, which then deposits the funds at the Fed. So we have the reserves being shown in this pink color here. So what this shows is this circular flow of dollars comes from the role of the Federal Reserve as the elastic node in the global financial system. And it turns out that the blue and the pink bars, which correspond to this red arrow here, matches the amount of the drawn swap lines. Now, the reason I point this out is not only to point out the importance of the international nature of the elastic nodes, but also highlight one issue, which is very important, which is the currency dimension. So why is it the dollar? Why not other currencies? And I think this does raise the question of how nonconventional monetary policies, balance sheet policies, might be able to be deployed in other contexts. And in particular, there's been a very interesting debate about how far we can take asset purchase programs in the emerging market context. And if we look at this chart, which shows the cumulative flows into emerging market government bond funds, where we distinguish the foreign currency funds in pink and the domestic currency funds in blue, what we've seen is that although the outflows we saw in the dollar and other foreign currency funds have largely been reversed, the same is not true in the blue. In other words, for the domestic currency bond funds, we have not seen a reversal, which raises the question which currencies receive the flight to safety flows. Now, because of the nature of the crisis, fiscal policy has been a very important dimension of the policy response to the pandemic. And yet emerging markets have been much more reticent in fully opening the monetary floodgates. And although some central banks have engaged in asset purchase programs, they've been very small. They've been more directed towards market functioning rather than QE as such. And I think one hypothesis is that the reason for this is that emerging markets have still memories of the period of monetary instability that they went through in the 1980s and the 1990s. And one thing that we know is that during periods when you have a very sharp depreciation, exchange rate pass through to inflation also goes up. So these two charts show you the pass through from exchange rate depreciation to inflation. And they tend to be very high when you have a period of monetary instability. What's interesting is that you also see that even in the Asian context, pass through jumps in 97 during the Asian financial crisis. And it does highlight the importance of the monetary-fiscal interactions, where if you have less mature financial markets that can absorb the issuance of government bonds, then the fiscal expenditure will show up in terms of narrow money through monetary financing. And if you like the fork in the road is the monetary policy response. So if the very sharp depreciation in your currency leads to an exchange rate pass through that is much higher, whether that turns into a period of very high inflation, sustained very high inflation, or it's just a transitory spike depends very much on the subsequent monetary policy response. And when we do an inflation at risk type exercise, where we run quantile regressions to see the various quantiles of the of the distribution of inflation one year ahead, we do see that if you shift the fiscal deficit by one standard deviation upwards, you do have this rightward shift in the inflation density. So let me conclude and I think Marcus will be able to lay out some of these points in a more systematic way. So the first point is that the dash for cash underscores the importance of elastic notes that can accommodate the demand for money. And here the issue is it's also about the currency as well as about money as such. The dash for cash tends to gravitate towards certain currencies rather than just money in general. For example, in the money market fund stress, we saw much more stress in the dollar money market funds than we did for the euro money market funds. The other point is that commercial banks are the first line of defense and therefore it's another reason for having a great emphasis on having a very strong commercial bank sector. And the banks as I said can accommodate the demand for money through overdrafts and it's very unlike stablecoins or prime money market funds in that respect. Clearly central banks are the second line of defense both domestically and internationally and we have again seen the very important role of central banks during the recent stress period. However, not all currencies are created equal. And we know that currency crises can and more inflation expectations and depreciation then passes through to inflation. And the fork in the road of course is that the eventual outcome depends very much on the monetary policy response. So let me conclude there Isabel. For reminding us that emerging markets are actually in a very different situation from us. I think that was extremely useful. Let me also remind the participants that you may already now start raising your virtual hands. We are very much looking forward to your questions. And let me now hand over to our final panelist who is Markus Brunermeyer, professor at Princeton University who will present his considerations on how to transform the monetary analysis into what he calls a trap analysis in order to safeguard monetary transmission, central bank, independence and financial stability. Markus, the floor is yours. Thanks a lot, Isabel. It's a pleasure to be with you and with this panel, this prominent panel here at ECB Forum 2020 virtually in central. So I would like to talk about some challenges we might face down the road on this very important also for the new monetary policy framework ECB is thinking about. One of course is as everybody knows we will have very high public debt levels and also private debt levels. We might have a wave of corporate defaults and there are also new digital monies coming in. And the emphasis I would like to spend on this 10 minutes today is very much on traps. The central banks have to look out not to be caught in traps to maintain its independence and flexibility down the road. And there's a narrow corridor between two traps. One is deflation trap and we have heard a lot already in the previous talks about it. The zero lower bound or effective lower bound reversal rate, you cannot cut the interest rate. Uncertainly might go up, people do more savings for precautionary reasons that might be flight to safety as Yoon was pointing out. And all of this will lead actually more demand for money holdings and save asset holdings. And that might actually push down inflation and we might get down to deflation and essentially hurting borrowers significantly. That's one way we can be trapped. The second trap, of course, is an inflation trap and inflation is acting a little bit like a bank run. If the anchor breaks, then there will be a run on consumption or there can be a run in other safe assets. That's this flight for safety aspect. So you can run in foreign currency, for example, as Yoon was pointing out. And that leads to an import cost push jock. And that leads to another inflation spike then. So that's not around the corner, but one has to keep this in mind all the time. And finally, there might be also the wage pressure coming up as well along the Phillips curve arguments, which is fairly flat and we haven't seen much action there also in Japan. The Phillips curve is very, very flat. But in general, the big danger essentially is because of the high public debt level, there might be solvency concerns. And this might inhibit the monetary policy to do the appropriate measures to control inflation because it might undermine fiscal stability and financial stability. And I will talk later about how fiscal dominance might play a role in such circumstances and how financial dominance might play a role because the financial sector might not be able to handle the appropriate monetary policy. So that's what actually one has to keep in mind. And one way to deal with that, to keep these traps in mind is to really focus the second pillar of the ECB's policy strategy on these traps. On top of the monetary analysis, really focus on these tail risks of being trapped or tripped. So why is it useful to have a second pillar on this on top of the economic analysis? It's very useful to typically have some cross-check, have some robustness analysis, because not everybody's everything should be relying on a single model on a single theory on the mainstream. So it's actually good to have some heterogeneous thinking to avoid some groupthink. And there's some important earlier work by Alan Blind on this groupthink aspect within central banks. And it's a little bit like a chief risk officer where you also would like to have somebody looking out for the tail risks. And that's, I think, what could be part of the second pillar or could be included in the second pillar. So the second pillar should include some defectiveness of the transmission mechanism, financial stability considerations, but also the fiscal spillovers and how it affects the independence of the central bank. And on top of it, of course, there will be, and I don't have time today to talk more about all the digital money aspects, the central bank digital currencies. That's also some considerations to make sure that the monetary sovereignty is guarded and preserved for the ECB. So that's essentially one message I would like to get across. And then I would like to focus on one particular tail risk, which are called inflation whipsaw. And that's also part of the trap analysis. So again, what's inflation whipsaw? Right now, we actually have a lot of deflationary pressures. So inflation is very, very low. So we have essentially close to zero negative inflation. And as I mentioned earlier, we have not so much room because the reversal interest rate is kicking in. So if we cut the interest rates further, it might be counterproductive. It might hurt the financial sector. And then the transmission mechanism is not working the way it should be. But it might be down the road later on, because of this high public debt level, we might have some inflationary. I'm not arguing this will happen. I'm just saying that's a tail risk one has to keep in mind. And that's because of fiscal dominance and financial dominance considerations. And what I would like to say, what are the different inflation and deflationary pressures are coming in? So there are various pressures which are currently very active. So right now, it's very hard to spend. You can't go to restaurants. You can't do this. There's a lot of forced saving. There's a lot of uncertainty in the economy. When there's uncertainty, people want to save more of the precautionary reasons. That leads to deflationary pressures. So that's a minus sign here. Of course, there's a lot of capital misalocation going on. We have to reallocate a lot of physical capital. At this stage, we don't know. So the capital misalocation leads to less output. It's supply shock, that's inflationary. There might be redistribution. You can show that redistribution from one sector to another sector is inflationary, hence reduces all the deflationary pressures we're facing at the moment. There might be government commitment problems. There's pent-up demand. So right now, your forced savings and later on, people will catch up to it. Of course, you can't go more often to restaurants down the road, but there might be certain products. You have some pent-up demand. And there are many other aspects I can't really go into which have different... It's interesting to see the different forces pushing at the stage. And right now, we have a lot of forces very, very powerful pushing for low inflation or even deflation. But it's not clear that this will remain all the time. And the argument is there's a tail risk. And what you would like to have, you would like to have ability to be very forceful now and also be very forceful later on. So you can essentially also use later on break. So if you have independent monetary policy, very powerful central bank, well in doubt with capital, then you can be actually much more forceful at the moment and the ECB is very forceful to put the accelerators on. Because you're sure later on, if you were to need breaks, you can also impose the brakes. So it's a little bit like a race car depicted here. If you have a car with good brakes, it's also... You can also drive much faster and get closer to the edge right now because you know later on, if you have to brake before the curve or wherever it comes, then actually you can brake. So that's essentially the analogy. So what are the brakes? The brakes is the central bank independence. There's a lot of argument, especially in the U.S., that we don't need central bank independence. I would argue it's even more important to have central bank independence because it can be more aggressive now because if you were to need it, you have it there and you can avoid the fiscal dominance which might come down the road. It's very important to have very potential regulation to avoid the financial dominance. And both of these are very important elements. So let me go to fiscal dominance before I go into financial dominance. So fiscal dominance essentially is that there are two authorities, the governments, the fiscal authorities, and the monetary authorities, the central bank, and they typically play a game of chicken. So there's like two cars running against driving against them. The question is who will chicken out, who will swivel, and there will lose. And the fiscal dominance typically is the inability or unwillingness of the fiscal authorities to control the long run expenditure GDP ratio and that limits the authority to raise interest rates if it were needed later on. Also because certain member countries might have financial difficulties financing the budget or there might be default risk on the government bonds. So what's really important is to include a risk management approach. And instead of looking at debt to GDP ratios primarily, I think one should have some value of risk analysis which focuses at the fiscal debt servicing cost. So the debt to GDP ratio is actually not so prominent because right now the interest rates are very low. So we really should focus shift away from the level of debt divided by flow GDP. Let's focus from flow to flow. So some debt that servicing costs or the fiscal servicing costs are given the fiscal capacity and the fiscal capacity can be very different for the certain countries who can hike up tax rates further. Others cannot. So the U.S. has much more fiscal space by having additional taxes compared to other countries who have less fiscal space on that. So but in general I would like to shift away from the debt level, but more the fiscal debt servicing cost, but they can of course spike if there's a financial crisis. And that's why the emphasis on the value of risk rather than just purely on a level of things. And that resonates also with what Grezia said, which said very much focusing on the risk perspective rather than on a level of perspective. And that's essentially comes very close. The flight to safety, there's a loss for the safe asset status of certain government debt. Of course, the ECB can protect the safe asset status of certain government bonds, but there's of course always a danger you lose. And that should be part of the risk management analysis, the risk management approach. And whether you lose your flight or use your safe asset status depends very much relative to other safe assets. So if, for example, Japan and U.S. expand a lot to the government debt level, then Europe has more room to expand as well. So the analysis should incorporate also what other big safe asset providers are doing. So that's on the fiscal dominance side. But the big policy implication is that you want to strengthen the independence. And the way you strengthen the independence enshrined in your international treaty. So that's very, very strong, much stronger than for the Fed, for the ECB. But you also have to have enough equity. So the ECB should have enough equity. So it might make sense to expand on the ECB's equity position, even if the ECB of course can go negative in the equity positions if it were to be necessary. But it doesn't hurt to expand, have a solid equity position as well in order to be really truly independent. You don't have to ask for recapitalization when you want to do something the fiscal side is not agreeing with on the interest rate policy. The second thing is now financial dominance. So I moved now from fiscal dominance to financial dominance. Of course, we have monetary dominance, then everything is fine. ECB doesn't have to worry about it. But there's also financial dominance. And the financial dominance, and that was a who was alluding to this inability to unwillingness of the financial sector to absorb losses. So with the financial crisis, there will be some bankruptcy waves. There will be some hit on the financial sector, and there will be some losses. And the question is, how to distribute these losses? And can the financial sector absorb these losses? So we would like to have a financial sector which really is strong enough, resilient enough to absorb these losses on macro potential regulation plays a very, very important role in this context. But essentially, if it really needs to be that there has to be some recapitalization, it can be done in two ways, either through the fiscal side or through the monetary side again, by moving the interest rates, changing relative asset prices to recapitalize essentially the financial sector. And as again, there's a second form of game of chicken with a fiscal and monetary authority, who is actually carrying the burden to recapitalize the financial sector. And to prepare for this, I think it will be interesting and a policy implication for that for the assets purchase program is to really make sure that currently the financial sector and also the corporate sector is not levering up much more. So right now we don't want to have incentives for the corporate sector and the financial sector to level up further. We would like to have a situation when you buy corporate bonds, let's say from the ECB, that you have a preferential treatment if you have lower dividends or you've increased equity. So what happens to a large extent also in the United States that you have this huge corporate bond issuance. And at the same time, companies use this revenue from the corporate bonds issues to buy back their own equity, which means levering up because the ECB or because of their central bank is providing cheap debt financing. So you don't want to actually subsidize higher leverage. You want to say we only buy bonds from companies and banks who have not increased the dividend payment or ideally who have lowered the dividend payment and have increased the equity position. So there should be an incentive baked in in the asset purchase program as well, knowing that down the road it might be a problem potential. Let me come back more to holistic strategy. So far, our monetary strategy in the textbooks is primarily we have an interest rate rule, which is a function of excess inflation and output gap, a la some Taylor rule, very traditional. And then we have a makeup strategies QE various asset purchase program. I think we need a much more systematic approach to that, where we have the interest rate, we have the price on risk, the term spreads, the balance sheet quantities and how much the balance is going to scroll. These are all instruments we would like to use as a function of the excess inflation relative to expected inflation. That's as a function of the output gap, but also as a function of the fiscal side, the value at risk of the fiscal debt service in cost as I mentioned earlier, and also on the financial risk. And as Lucrezia pointed out, how the risk is distributed in the economy matters a lot. And the central bank can actually affect risk distribution. So overall, you would like to have a dynamic risk management approach where you have a risk transfer and a wealth transfer to reduce the endogenous risk. What's endogenous risk? It's risk which is self-generated. Think of a bank run. If you have a purely liquidity bank run, there's risk suddenly coming out of nowhere. This type of risk you can actually eliminate by having a clever policy and also lower risk premium. So you focus on risk premium as well where the risk premium is the price of risk times the exogenous risk plus endogenous risk and the price of risk is also part of your instrument tool as well. So with this, let me conclude on these introductory remarks. Thanks again. Thank you very much, Markus. That was a very fascinating presentation. I have many questions, but of course I would like to give the audience the opportunity to ask questions. So please, if you would like to ask a question, raise your virtual hand so that we can give you the floor. And I see that Beatrice Veder de Mauro from the Graduate Institute Geneva and INSEAD has asked the floor. So Beatrice, please go ahead. Thank you very much, Isabel. It's a pleasure to be here and even a bigger pleasure to listen to all these presentations which have covered so much space. And I want to add one easy question to all panelists. And that's the question that a lot of people are asking in the Euro area, in particular in countries like Germany, when they hear about potential financial stability risks stemming from monetary policy, they think about low interest rates or low interest rates, which are very unpopular. They are convinced they will lead to asset price bubbles, to housing price increases, which are not sustainable, and eventually also to banking crisis. And on all of these issues, we as economists and as central bankers do tend to respond in part with the problem of the natural interest rate, which is very low, and with a lot of other concepts that are not necessarily very easy to understand for the general public. So my question and challenge to all of you is, how do you get out of this communication trap to add another trap to Marcus's ones? How can we communicate the necessity of QE and other policies, even though they may have some side effects? Thank you. Thank you very much, Bea. Of course, that's a question that I also find very interesting. We have two further questions in the queue, but at the moment, I cannot see the names. Okay, so maybe we give the floor to the panelists first, and then I wait for the other two questions. So whoever wants to respond, please come in. I would like to, yeah, can I talk? Yes, of course, please. Well, I'm two observations, one on best questions. I mean, I'm glad that she raised that question, because I mean, one of the points that I try to stress is that we are not in a monetary policy framework anymore in which we can rely on a simple rule, like, you know, a Taylor rule, very much central of the old framework of inflation targeting. And therefore, communication is very important. And this is where things can go wrong. I think that the complementarity of the tools is a very important message to give. Now, how to deal with the German audience, I don't know, but, you know, I mean, I think the more, you know, in, you know, kind of abstract, I think this is that should be, you know, something to reflect on. Okay, so what happens to the old communication strategy when you have a multi-tools type of, you know, monetary policy? On second thing, I would like to get this opportunity on Marcus, because I think we said many things that goes in the same direction. We need to have a risk management approach. And, you know, this has implication for both, you know, fiscal policy, regulatory policies, and so on and so forth. And I am very much sympathized with that, you know, and I've been saying that for a long time. The problem is, you know, is the monetary pillar really that tool? And I mean, in principle, I mean, it's nice that we had it. So we can say, okay, so we had this cross-checking idea, which is a good idea. But we really have to put much more content in it, because the everything, all these frictions and this instability that we have seen in, you know, in the course of the last 15 years, they really have very little to do with M3. And, you know, and so I think it's high time that ACB says, great. I mean, we would reinterpret the monetary pillar, but in a very, very different way. And so there should not be room for complacency and say, oh, well, we have the monetary pillar, so we are fine in our risk management approach. Thank you. So may I actually collect the two other questions before the other two also have the opportunity to respond? So we first have Harald Ulich from the University of Chicago, and then we have Paul de Grauwe from the London School of Economics. So Harald, please. Yeah, thank you. And a fascinating panel, lots of interesting ideas. My question is perhaps mostly to Marcos, but also really to all three panelists. There used to be a time when we thought about monetary policy as not being able to do all that much. You know, we came to a consensus, I think in the mid 90s that monetary policy was mainly geared to keeping inflation stable. And that's really what they ought to do. And the mastery treaty was very much written in that spirit. I'm a little worried that if you go to, you know, risk management, risk distribution, holistic approaches, you know, all kinds of aspects that will give the impression that the central bank is really capable of doing a lot more than it may be capable of. Well, either, you know, maybe the central banks are indeed capable of doing a lot more and the consensus shifted again. So that's one possibility. Or we end up promising too much in the end. And that could be danger. That sort of comment maybe in line with what Beatrice already pointed out. Thank you very much, Harald. So the next question is from Paul de Graufe, please. Okay, thank you very much. I enjoyed these presentations very much. And my question is for Marcus. And again, I liked the presentation. It was very insightful. But I was surprised by his recommendation of raising equity of capital of the central bank of the European central bank. I was really surprised about this because we live in fiat money system, right? And we all know that central banks in such a system don't need equity. They can live with any level of equity, right? Also, what does recapitalization mean? It really means that the government dumped bonds on the balance sheet of the central bank so that it can raise its equity level. But this is just a bookkeeping operation without any implication, right? No fiscal implication whatsoever, because the interest rates that treasury pays out to the central bank are given back to the treasury. So it has no economic meaning. It's just a bookkeeping operation. So I was surprised that this seems to matter in Marcus' analysis. To conclude, I think in a fiat money system, the only source of credibility of the central bank is its ability to maintain price stability, right? And there's absolutely nothing to do with what it has on its balance sheet. Thank you. Thank you very much, Paul. Now, I would like to give to the panelists again. So please try to be concise because we have another question coming up. But now, I don't know, maybe Marcus wants to start because he was addressed several times. Thanks a lot. Thanks for the nice questions. So I agree with your communication is very, very challenging. I think what's very important is to get a perspective in bubbles when the interest rate is very low, in particular, if the interest rate is lower than the growth rate of the economy, it opens up a lot of possibilities also on the government fiscal side. But it also makes bubbles much more likely and bubbles might be good to some extent, but they're also prone to be bursting. And that creates a lot of stability risk. And that's something one has to keep in mind in the communication. I don't have an easy way to communicate that. I think we have to, as an economic profession, probably all work together to make it clear to the public and educate the public more on this dimension. With regard to Lucritia's point about the monetary pillar, I totally agree with her too that the monetary pillar should be enriched and should include what I call the strap analysis. I think it's very important to avoid grouping to have two different entities within the same house to cross check each other, get different perspectives, and also look at the tail risks, look at the particular, you know, what happens when you're potentially trapped and focus on that. And that's also relating to Harold's point. So I totally agree. The primary objective and the clear mandate is for the ECB to have focus on inflation and price stability. And I don't want to go away from this at all. But if you don't look ahead on potential traps, you might end up in a situation where you get up, get into deflation or inflation because you didn't incorporate all the different elements. So I don't want to communicate to the public that, you know, there is, we will do all of this. So the ECB is doing all of these aspects. I just want to say, okay, be sure that you don't have to worry about this. We have taken care of all the different traps, which might happen. And because our analysis in the house will take care of that. So that's essentially a different focus because you can have a flight to safety suddenly, you know, there's big shifts in the exchange rate or something like this, as you pointed out, and that leads to some cost push shocks or whatever wherever the inflation or the deflation forces are coming from. Finally, with regard to Paul on recapitalizing the ECB, it is indeed the case that central bank can have negative equity. There's no problem on that. But it can only go negative to a certain degree. I mean, there's very important work by Bob Hall and your colleague Ricardo Rice from the LSE who show how far negative it can go. If it goes below this threshold, then it is the case, actually, then the credibility of the central bank is undermined. And then it's harder to manage and satisfy your mandate on price stability. So there is a limit. So you can go negative, but it's not totally disconnected, even in a setting with fear of money. So that's, I think, to keep in mind. And on top of it, there's all in addition, there's some headline risks. So if it, you know, the German newspapers or any newspapers say, oh, the ECB has now negative capital, that's additional headline risk, even though, you know, in the real world, the can go negative and we have many central banks which went negative in Chile or Czech Republic or many central banks went in negative territory, but there's a limit on negative if you can go. Thank you very much, Markus. Maybe Jun and Lucrezia can be very quick because I would like to have the other question that has come in. Jun, please. Perhaps just to, Isabel, perhaps just to pick up on the last question that Paul gave us. Yes, it's true that central banks can operate with negative accounting equity. Ultimately, it's the trust in the money which, you know, sustains the credibility of the central bank. The question is how negative can the equity go before that trust is eroded? And you know, we put out the working paper, again, on the Bank of Amsterdam, Isabel, which is a historical example of what happens if you push, you know, beyond the line of no return. Yeah, let me just stop there and then we can entertain some more questions. Thank you very much, Jun. So the great thing about the Bank of Amsterdam is that you can apply it for many things, including also stable coins, as you also did. Lucrezia, please. Yeah, I mean, I would say to Paul that the credibility of central bank lie on the shoulders of the fiscal authority. Okay. And so even if technically we can have negative capital, I think that there is a limit and, you know, this is also linked to how we want to, you know, communication and so on. And then, you know, also the way in which central banks redistribute seniority differs. So I think, you know, we should have a look at that and, you know, especially in the euro system to, you know, to have some principles. Now to Harold, I think that I think these are very serious concerns. But, you know, if, you know, sitting now is the second day of this conference, everybody talked about complementarities, interaction between fiscal monetary parties, interaction with this and that. So clearly, we have discovered new channels of transmissions because of this non-neutrality fear, you know, non-neutrality mechanism, frictions and so on. So monetary policy in a way is more powerful. But on the other way, you know, it is also, you know, has, you know, there are risk. And so, you know, these complementarities are complicated to manage and to communicate. So, and of course, I have no answer. But, you know, that's the agenda. Thank you very much, Lucrezia. We can have a very quick question from Evie Papa, please. Yes, thank you. So I would like to say that the great moderation is over. And actually, we go for the new normal of big shocks. So what I wanted to ask you is that, okay, currently, we're in the same boat, the shock hits the same everybody. But according to what the evidence shown has shown us, how would the central banks gear up for future larger symmetric shocks or future shocks in general? Would the policy that you're suggesting be enough? So thank you very much, Evie. So I propose that we have a final round of the three panelists. We have to hurry up a bit because the policy panel is coming up and we have very little time. I would like to ask you if you like to take up Evie's question. And apart from that, please give us a very short, like one advice for our monetary policy strategy review. Thank you. I don't know who wants to start? Lucrezia? I think Evie's question is a very important one. I think we had a dress rehearsal in March. I would just underline the point that having elastic nodes that can accommodate these shocks I think is extremely important. Both the commercial bank sector and of course the central bank as the first and second lines of defence I think will be very important here. So I think it's building buffers in a way that will give an extra degree of freedom where the financial stability, liquidity and injections, although this time round both the financial stability imperative and the monetary policy imperative point is in the same direction, that can never be guaranteed. So having the right kind of buffers would be very important. As for the one piece of advice, I think what history shows and I think what some of these very unusual circumstances really bring to the fore is the importance of thinking about exchange rates as a very important part of the analysis. We tend to neglect that because we tend to think of the economy pretty much from a closed economy perspective and I think inflation and very sharp accountancy depreciations I think do highlight the importance of having this external stability element as well. Thank you very much, Jun. So now the responses have to be even shorter. So Markus please. Yeah, thanks a lot Evie for a nice question. I think it's I agree with you the map is huge large asymmetric shocks. If they're liquidity shocks the ECB should take care of it with a lot of new programs they have now at their hand at the proposal disposal but we also have a much broader European framework the ECM and others to help out on this dimension so I think we should make use of the ECM and other policy tools we have beyond just the monetary framework. I think that's very important and particularly if it's real losses which real adverse shocks which are not purely liquidity shocks. Finally with regard to the one advice I think what's very important for me I think is you would like to have a framework where inflation is worry free so people don't have to worry about inflation at all. So that the people can worry about other things in their lives and they don't they just can trust there's trust in the ECB and they don't worry about these things and all the policies should be very very much forward-looking and to avoid potential potential traps amending into. Thank you very much. Marcus Lucrezia please final statement. Yes I mean to deal with asymmetric shocks I mean if we are talking about the real sector I think there is the you know important work that shows that you know fiscal policy it's a better instrument but that doesn't mean that the monetary policy doesn't have a role to play and actually you know we in fact you know practice may be ahead of theory here because you know we are seeing in the Europe in in the EU a sort of coordination now implicit coordination between what the fiscal authorities are trying to do with the recovery plan and what the ECB is doing supporting that process and I would put there also the the fact that we are starting having us we are at the beginning of developing a european safe asset with this new fiscal with this new you know raising debt by the EU I mean we are a long way to go I mean I hear that you know is the beginning of something new the market has reacted extremely positive to that but of course in order to you know to go more in that direction you know we also need other instruments for example developing the market the capital market so complementarities of tools again so this is it seems to me that is a common theme and then if I have a message I don't think we have the right governance to deal with this mess and so I think that this problem will hunt us in the next years so although this is maybe not the the area in which the the strategy review will focus we should be aware of that thank you very much Lucrezia I would like to thank you all very much for participating our excellent panelists all the people who ask questions everybody who was listening thank you very much and now of course we are all very much looking forward to the next panel and I hand over to Thierry indeed thank you Isabel thank you to everyone for that fruitful discussion and as Isabel announced we look forward to seeing you for the policy panel at 5.45 see you soon