A gameplan for the ECB – it is not complicated

A very good friend of mine asked me what the ECB should do in the present situation where inflation and inflation expectations continues to run well-below the ECB’s inflation target.

Here is my answer – it is what we could call a gameplan for the ECB (it could easily be used by other central banks as well):

1) Stop communicating in the terms of interest rates. Announce a PERMANENT growth rate for the money base. Announce that the growth rate will be stepped up every month or quarter until inflation expectations are at 2% at all relevant time horizons – for example 2y2y swap inflation expectations. At every ECB meeting the permanent money base rate is announced.

2) Control the money base by buying a basket of global AAA-rated govies.

3) Announce a NGDP LEVEL target consistent with the 2% inflation target and announce that the ECB will not let bygones be bygones – meaning if you undershoot the target one year then you should overshoot the following year.

4) Internal forecasting should be given up. Instead only surveys of professional forecasters and market forecasts should be used for policy input. In the reasoning for the money base growth target there should be given only a reference to these forecasts and the ECB should commit itself to set money base targets based on these forecasts and nothing else.

And what could the of EU do?

1) Suspend the implementation of Basell III and other banking regulation that depress the money multiplier and increase demand for safe assets until nominal GDP has grown for at least 4% for 8 quarters in a row.

And maybe also…

2) Suspend the growth and stability pact for now.

I think it is very easy to create inflation and nominal demand. It is all about commitment. Unfortunately the ECB does not have such commitment.

PS this is essentially what I earlier have called a forward-looking McCallum rule – see also a similar suggestion for the Fed here.

Leave a comment


  1. Can never happen with the Bundesbank in the driver’s seat.

    • I am afraid you are right. That said, ideas are important. Had not been for Milton Friedman’s ideas then inflation would have gotten out of control in the US and Europe in the 1980s.

  2. Matthias

     /  July 9, 2016

    Why the need for an inflation target, and not just NGDP? (Is this just because they already have the inflation target?)

    • Matthias, I fully agree that no inflation target is needed. That said, targeting 4% NGDP growth over the medium term would more or less deliver 2% inflation (assuming 2% real GDP trend growth) – so yes, in that sense this is just because the ECB already OFFICIALLY is targeting 2% inflation.

  3. Eske

     /  July 10, 2016

    Is there an inconsistency between point 1 and 2? We need a permanent money base increase i totally agree but QE (buying bonds) is not permanent but is only a temporary increase in money base (as it matures with the bonds) which is why it is so fruitless in creating inflation. Examples of permanent money base increases is helicopter money etc.

  4. BenjaminS

     /  July 13, 2016

    Sounds nice, but I don’t think this is feasible. The problem with 2) is that the ECB is already close to the limit of what they can buy in EUR-denominated bonds. If they buy other currencies, it wouldn’t help.

    • There is no limits to how much the ECB can buy of any assets. It could easily buy US Treasury or UK or Swiss govies – not to mention Japanese bonds – other than euro zone government bonds. It is very simple.

      • Matthias Goergens

         /  July 13, 2016

        Yeah, it doesn’t matter what the assets are nominated in, as long as the ECB buys them with Euros.

        They could buy gold, which as a commodity isn’t naturally nominated in anything. Or bitcoin or S&P 500 ETFs, or baseball cards.

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