“More may yet lie in store for us on the inflation front” Interview with Handelsblatt

The interview was conducted by Leonidas Exuzidis and Stefan Reccius.

Mr Nagel, you're a keen Vespa rider. Has that passion worn off given the current fuel prices?

One benefit of having a Vespa is that it's economical. I don't use it for long-distance journeys anyway. But when I buy fuel, I've also started looking more closely.

So even the Bundesbank chief is a smart and strategic refueller?

Of course I try to save money, just like others do.

Inflation starts at the petrol pump, they say. In the euro area, it has surged from 1.9 % to 3.0 % within the space of two months. How painful are things going to get for consumers?

Things are already painful right now. And the price increases probably won't remain confined to fuels. We know from experience that a supply shock and its impact on all categories of goods can well be as much as 18 months apart. So more may yet lie in store for us on the inflation front.

How strong will the rise in inflation be, according to your forecasts?

As conditions stand right now, we will probably see inflation average around 2.7 % in Germany for 2026.

And where will it peak?

There may be certain months where we see rates of more than 3 % again. How high inflation rates turn out to be depends on how the situation evolves in the Middle East.

Aren't the signs indicating that matters will get worse and that there's a danger of inflation rates exceeding 4 % during the summer, like in the ECB's negative (adverse) scenario?

That cannot be ruled out. We are already no longer in the Eurosystem staff projections' baseline scenario, but moving in the direction of the adverse scenario. And it should be noted that two interest rate hikes had already been factored into the baseline scenario because these had been priced in by markets in March.

Despite this situation, the ECB extended its rate pause at the end of April. Why did it do that?

We discussed a hike at the Governing Council meeting. In the end, we made a unanimous decision to wait the six weeks until the next monetary policy meeting in June. Then we will have additional data as well as new inflation and growth projections by Eurosystem staff, and thus a more robust basis for a decision.

And interest rates are then going to rise as of June?

I still haven't given up hope that the situation in the Middle East will largely ease. But we cannot ignore the high energy prices. Interest rate hikes will become increasingly likely if the inflation picture does not change fundamentally. Short-term inflation expectations, for example, have already moved away from our inflation target. And even if the war is soon over, the rate of inflation might remain elevated for significantly longer than we thought just weeks ago. That's because refinery capacities have been destroyed, inventories have been depleted, supply chains have been disrupted and geopolitical uncertainty will presumably still be heightened.

Is a big interest rate step of half a percentage point conceivable?

Nice try. The Governing Council will decide how to proceed further in June.

Are you worried the ECB might lose control of inflation expectations?

Quite the opposite. No one enjoys raising interest rates when growth is under heavy pressure. But our mandate is to keep prices stable. And over the long run, it's better for everyone if it's clear that we're taking our inflation target seriously and keeping inflation close to 2 % over the medium term. We're going to do our job - no ifs or buts.

Forward markets are pricing in two to three interest rate hikes before the end of the year. Is that reasonable to expect, given the sluggishness of economic activity?

The best thing we can do for long-term economic growth is keep prices stable over the medium term. We are keeping a close eye on the data.

Are you risking a recession because you've got a bad conscience over the ECB's late response back in 2022?

I see no reason to make that assumption. In 2022 we emerged from the pandemic, and then Russia's war of aggression began in February of the same year. We halted net asset purchases under the bond programmes before raising rates for the first time - and I still think that was the right sequence of events.

Many experts take a different view, and also some of your colleagues have admitted that mistakes were made.

It's possible that the asset purchases could have been scaled back earlier. But gradually discontinuing the programme and only then raising interest rates was a logical and highly consistent monetary policy approach, in my view.

The status quo isn't the only thing that's different this time. What is artificial intelligence doing with inflation?

On the one hand, artificial intelligence is driving up prices. The investment volumes are colossal, and hardware prices are already on the increase. Plus there is a highly concentrated market for hyperscalers ...

... that is, providers of cloud services.

On the other hand, price-dampening effects could materialise if artificial intelligence does indeed give productivity a boost and lower costs. But that kind of effect is not yet showing up in the data.

The energy price shock is also prompting the Federal Government to take action. According to the ECB, government support should only benefit those who urgently need help. The fuel tax rebate doesn't meet that condition, right?

Low earners who need to drive to work in particular are being hit especially hard by high fuel bills. For those people, the fuel tax rebate does make a difference, assuming it is passed on to the consumer. I can appreciate that politicians wanted to deliver quickly in this regard, and the measures are limited in terms of their scope and time scale.

Are you reluctant to criticise the Federal Government because you ruffled some feathers with your call for Eurobonds - that is, common EU debt?

No. Those remarks I made picked up on a Governing Council recommendation to European Heads of State or Government on joint financing. I explained the conditions under which I consider earmarked European debt - which, I might add, has existed since back in the 1970s - to be conceivable: for additional defence spending, say, and subject to strict conditionality - that is, without jeopardising sound public finances and without acquitting governments from the duty to maintain fiscal discipline.

French President Emmanuel Macron is beating the drum for Eurobonds as well. Are you cosying up to him to become ECB President?

Most certainly not. I made my remarks immediately after the discussion on the Governing Council, and Emmanuel Macron came out with a far broader-based proposal a few days later. What matters for me is that the EU debt isn't simply "tacked on top" but that, in return, there is a decline in the national scope for borrowing. In other words, for clearly defined common tasks, existing borrowing capacities could, subject to certain conditions, be shifted to the EU level.

What needs to happen with pensions to prevent a financial collapse?

We are living far longer, more and more people are drawing a pension, and fewer and fewer people are working. That is putting pressure on pension finances and contribution rates. Absorbing that pressure with ever greater central government grants doesn't fix the problem. I think it's logical for us to work for part of our longer lives. And to achieve that, the Bundesbank - like many others, I might add - is proposing to systematically link the statutory age of retirement after 2031 to rising life expectancy. I think that's almost inevitable if we have the great fortune of living for longer and longer.

Isn't that too much of a broad-brush approach? Why should a roofer have to work just as long as someone who has spent 40 years sitting at a desk?

I see that point, especially since my grandfather was a roofer himself. And you are perfectly right: Even if we do, on average, stay healthy for longer, there will be people with health issues in old age. There can be many reasons for that, though, not all of which are related to one's profession as such. That is why we have also always made it clear that it is important and necessary to have suitable individual protection against disability, say.

Germany's new private pension scheme with sponsored ETF savings plans is coming out in early 2027. Will it be the old "Riester" scheme in new clothing or a game changer?

The new scheme sends the right signal, and it's an important step towards a stronger funded pension pillar. At the same time, though, I'm a realist. As much as I welcome the new private pension scheme, it will only have an impact in the medium term, and it won't fix the problems the pension insurance scheme is facing in the coming years.

Are you against a takeover of Commerzbank by Unicredit, like the Federal Government is?

That is a private commercial decision between two banks, backed by their shareholders. As the president of the central bank, I am not going to take a political stance on this matter. After all, the Bundesbank also plays a role in banking supervision.

Does Europe need more cross-border bank mergers?

We support the banking union as part of deeper integration aimed at countering fragmentation. In Germany, the deposit guarantee schemes operated by the associations of savings banks and cooperative banks have proven to be exceedingly robust over more than a century. That is something we need to take into account in an EU deposit guarantee scheme.

You are working with the Federal Government to push ahead with the digital euro. How concerned are you about the delays in the European Parliament?

A legal framework by the end of the year is still realistic. Initially, there was a lot of resistance, but meanwhile the debate has become much more objective. Unanswered questions such as how many digital euro I can hold in my wallet can be resolved. Of course, I would have liked to see greater speed. But I am confident that I will be able to pay using the digital euro by the end of 2029.

We get the impression that the resistance in the banking industry has grown rather than diminished.

That is not the impression I get. More and more banks are coming to see the opportunities that the project offers: the digital euro can create a common European infrastructure that institutions can use to develop their own services and offer their customers pan-European payment solutions.

Banks are worried mainly about the outflow of deposits to the ECB.

That will not happen. A holding limit specifies a maximum amount of digital euro that individuals can hold, where no interest is paid. Given the large amount of excess capital held by European banks, they can easily cope with the volume of funds that can be transferred under the holding limits under discussion.

What is important to me here is that the holding limit does not limit the digital euro as a means of payment. Even higher amounts can be paid using the digital euro. The money required is then automatically taken from a bank account, much like what happens when you pay using PayPal.

The US central bank, the Federal Reserve, is against a digital dollar. Why does the euro area need a state-backed digital currency and the United States doesn't?

The market for digital payments is currently dominated by US enterprises - Visa, Mastercard, PayPal, Google Pay, major stablecoin providers. For geostrategic reasons, if nothing else, we need an independent payment method in all euro area countries; something that we will achieve with the digital euro. The United States quite simply does not have this problem - the market meets its needs.

Europe's financial institutions were unable to do this themselves, so do they need assistance from the ECB?

It is not about assistance. The world has changed, and some things have happened that we thought never would. Europe has to become more independent, and that includes payments. So far, however, the euro area has lacked an end-to-end single, European solution based on European infrastructure. At the same time, we expressly welcome private initiatives in payments. They can use the digital euro's infrastructure.

How do you plan to convince the general public of the digital euro?

That is a very important task. As soon as the legal framework is in place, we can tackle it head on. We will demonstrate the use cases and make the benefits tangible - whether on the high street, in e-commerce or between individuals. A simple example: at present, you cannot always pay using any card in Europe. The plan is for the digital euro to be accepted everywhere. And to make one thing clear, cash is here to stay.

Do you use Germany's PayPal competitor Wero?

No, not yet. But Wero may become an important component in European payments. Wero, too, could use the digital euro's infrastructure for itself in future. We are offering something akin to a European motorway, which other providers of payment systems could also use.

The Fed is about to see a change of leadership. Former Fed Chair Jerome Powell plans to remain on the board, which is unusual. Can you understand his decision?

Yes, I can. His decision deserves great respect. Jerome Powell is an excellent central banker and will continue to be good for the Fed in his new role.

Are you less concerned about the Fed's independence now?

The concern does not simply disappear. I was disturbed by the personal attacks on Powell. I hope that Kevin Warsh will follow his predecessor's policies and defend the independence of the Fed with the same attitude.

Do you know Kevin Warsh personally?

We have met a couple of times. He is an economist with a long history at the Fed. He knows that he will be measured by his actions in office.

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