In a thought-provoking interview with the Financial Times, European Central Bank (ECB) executive board member Isabel Schnabel highlighted the importance of central bankers learning from historical lessons. Schnabel argued that economists need to shift their perspective and consider the long-term view of history, recognizing that the world of tomorrow may not resemble the world of today.
One example Schnabel provided was the ECB’s dismissal of warnings by economic historian Charles Goodhart in 2020. Goodhart’s book, ‘The Great Demographic Reversal: Ageing Societies, Waning Inequality, and an Inflation Revival’, argued that declining populations globally would lead to increased inflation due to rising labor costs. However, the ECB’s central bankers disregarded these concerns, believing that low inflation would persist as the primary issue.
Schnabel criticized the ECB for being too caught up in their own thinking and blamed their commitment to forward guidance for their delayed response in raising interest rates as inflation began to rise after the pandemic. She acknowledged that the central bankers had tied their hands too strongly and should have paid more attention to Goodhart’s warnings. Schnabel emphasized the need for economists to become more flexible in their perspectives, acknowledging that economic conditions can rapidly change.
The ECB economist stressed the importance of not assuming that tomorrow’s world will be similar to today’s. She urged central bankers to maintain more flexibility in their approach and cautioned against basing decisions solely on financial market movements. Schnabel warned that relying on market-based measures could create feedback loops and referenced economist Paul Samuelson’s “monkey in the mirror” analogy. This analogy compares central bankers who read too much into market movements to a monkey who believes they are receiving new information by looking at their reflection.
Schnabel also called for a reconsideration of how the ECB issues forward guidance. She suggested that all future guidance should be conditional on economic data rather than being absolute. Schnabel proposed adopting a Delphic type of forward guidance, which accounts for economic conditions, rather than an Odyssean type that restricts flexibility by tying oneself to a figurative mast.
In conclusion, Schnabel’s interview highlights the importance of learning from historical lessons and adopting a more flexible perspective in economics. She emphasizes the need for central bankers to consider the long-term view of history, recognize the potential for rapid changes in economic conditions, and avoid being overly influenced by their own thinking or market movements. By maintaining flexibility and basing decisions on economic data, central bankers can navigate future challenges more effectively.
