Otmar Issing - Executive Board, European Central Bank 1998-2006 HARDtalk

Now on BBC News, it's time for HARDtalk.

Welcome to HARDtalk. I am Stephen Sackur. The European economy just

about survived the post crash era of recession, debt crisis and emergency

bailout. But its resilience is about to be tested again. Global growth is

sluggish, Europe's ranks of look fragile and the EU is full of

political uncertainty. Germany has long been Europe's rock of stability

but for how much longer? Well, my guest is Otmar Issing, influential

German economist and former board member of the European Central Bank.

Should Europe brace itself for new economic storms?

Otmar Issing, in Germany, welcome to HARDtalk. Good afternoon. Let's

start with an overview of the world economy. Markets across the world

are deeply nervous. We've seen them in turmoil in recent weeks. We also

see global commodity prices are crashing. And dynamic growth is very

hard to find. How nervous are you at about the state of the world

economy? Think you have identified already an number of risks for the

world economy. In the first place I would point to geopolitical risks,

war in some parts of the world, terrorism is a threat. And in

economic terms it is a combination of uncertainty about what is going

on in China, what will happen in the future with the oil markets, the

banking system is stable enough to overcome eight new crisis, all this

creates a commendation of risks which are reflected in extreme

uncertainty and accordingly we see high volatility in markets -- a new

crisis. There is nothing Europe can do about a slowdown in China but it

will affect Europe. To what extent do you worry that the one thing that

the world economy had going for it in the last financial meltdown was

the fact that the emerging markets, China in particular, retained their

capacity to offer growth. This time around that isn't the case. This is

true. We don't identify for the moment any sort of countervailing

developments in the world. It is going more all less all in the same

direction. And of course the biggest uncertainty is about China, it is

now an important player for years in the past -- more or less. China has

delivered more than half of growth for the world economy. And this has

more less stopped for Europe and Germany. This will have an impact on

exports. By itself, if it were only China, I don't think we would be too

concerned, but it is just one element in this sea of uncertainty.

Let's get to Europe now, and two matters much closer to your heart,

as one of the sort of elite central bankers in Europe over the last

generation -- to matters. Do you share the view of, well, it was

expressed in the Financial Times just the other day, that Europe, for

all of its talk of sorting itself out after 2008, in particular

sorting out its banks and financial systems to make a more resilient,

what we seek to day with the new round of nervousness across the

world economy is that Europe's banking system remains desperately

fragile. I would not say desperately fragile. Fragile is enough. LAUGHS.

Fragile is still an indictment, Mr Issing of everything that has been

done in the last seven years. Yeah, but I think, all in all, this

banking system is in better shape than before the last financial

crisis in 2008. Banks are better capitalised, they are better

provided with liquidity, the ECB has provided assistance for the banking

system, so, all in all, I think fragile is OK, desperately fragile

is absolutely exaggerated. Well, let's not get stuck on semantics.

The bottom line is if one looks at public confidence in the banks, and

let's talk about a sort of totemic bank in your country, Germany,

Deutsche bank. Shares plummeting about up to 40% at one point as the

public, and indeed the financial markets, lose confidence in these

important banks' ability to withstand future shocks. I think

that the Deutsche Bank case is a special case. Its position is such

that it is quite gloomy but it is more due to past failures, part

storm is to criminal acts in which the bank had to spend a lot of money

and it new capital was raised over the last few years. It was wasted by

paying fines. This adds to a double-digit billion fine. So, I

think this is something different from the general fragility of the

banking system. I think nobody would doubt that the Deutsche Bank can and

will survive and go on in future again. So, I refer more to banks

which are sitting on a lot of non-performing loans. This is

especially true with the periphery. For me this is the bigger risk than

just what is going on in Deutsche Bank. Lets make it much more

broadband Deutsche Bank. In the words of the Financial Times there

are still zombie lenders in parts of Europe, you know, with debts that

will never be paid on their books. And, you know, one wonders, for all

this talk of banking union in Europe to make the banking sector so much

stronger, what that really means, 'cause in the end there are no

guarantees of bailouts, there is no sort of guaranteed Euro wide deposit

insurance. What exactly is the banking union? Well, the banking

union is still an unfinished house. We have established a single

supervisory mechanism at the European Central Bank, and I must

say I would not have expected that the ECB would, after one year, be in

such a strong position. You see, they had to hire more than 1000

staff and at the same time starting supervising the most relevant 129

banks in Europe, in the euro area to be more precise. I think this has

worked so far quite well on deposit insurance and resolution mechanism

work still to go on. My personal opinion is that common deposit

insurance should not be introduced before the situation of bank

balances is clarified, all the loans are digestive... You mean that the

zombie banks go bust before the eurowide commitment to bailing out

banks and insuring depositors' money is delivered, is that what you mean?

You are again going very far, to go bust. I think you referred a moment

ago to zombie lenders. I think this is a problem which we have seen

contributing to long-standing growth in Japan, zombie banks lending to

zombie companies. I think this is an important burden for the recovery,

and I think the banking system has to be clarified. This is what the

Americans have done very quickly after the crisis. It has been missed

in Europe. Quite. Europe has been much slower. And actually, now that

you make the comparison with Japan, I am going to extend it a little

bit. You know, there is a parallel, is there not, between what we see in

Europe today and what we see, what we have seen, for the last

generation in Japan, that is long-term economic stagnation. And

one symbol of it in Japan, which is now coming to Europe, is negative

interest rates. I mean we now see in Sweden and interbank lending rate of

-0.5%, that suggests a long-term lack of confidence in growth, a

long-term sickness, does it not, in the perception of the European

economy? I think growth has stopped to fall, it is now in positive

territory. It looks still quite stable, it is moderate but 1.5%, I

think this is not stagnation. You egg and exaggerate. I am not

exaggerating about this trend towards negative interest rates in

Europe, that is a reality -- you again. I think this trend might

continue as long as structural reforms are not really... Don't

really materialise. I think low investment, low growth, is not any

more due to too high interest rates but these low interest rates can

have a positive, substantial impact on especially the economies of the

periphery only if they meet markets which are not burdened by too much

regulation especially the labour market. That is interesting. You are

saying that has to be an onus now on the politicians to do deliver

structural reforms, you cannot just rely on bankers to deliver monetary

policy. It seems to me you could argue that the ECB, where you were a

board member, has run out of ammunition, or at least appears to

have run out of weaponry to stimulate the European economy. They

have used a form of quantitative easing to pour what, 1 trillion

euros, into the European economy in recent times, and you say it is

growth, but it is paltry growth, but there are not many monetary weapons

left to use, are there? I would not say it is running out of ammunition.

You can increase quantitative easing endlessly. That's not the German

way, Mr Issing, is it? I am talking about hypothetical situation...

LAUGHS. ISAF very hypothetical. You know as

well as I do that the Germans don't want to see endless resort to

quantitative easing -- I say. It comes back to the Japan model.

Europe is stark. Even with the lowest interest rates in history,

even with pouring money in the form of quantitative easing, nothing is

really getting Europe going -- stuck. I am always really angry when

I see that the Japanese situation is presented as a kind of permanent

nightmare. But you know, like me, that over the last ten years growth

per capita in Japan was higher than in the US. So, as economists I

think, the welfare, perhaps, the welfare of people is key and in this

respect Japan hasn't done so bad as it is presented by the BBC or the

Financial Times. On these eurozone issue, you have been on the record

in recent times as saying that you think in many respects the third

bailout of Greece was a mistake, that Greece probably would have been

better off, the eurozone would have been better off, if Greece had at

least for a time being exiled out of the eurozone. But it seems to me

that the institutions in Europe don't recognise the reality that you

see. I mean, they are still, frankly, talking about new forms of

fiscal union, they're talking about a finance ministry for Europe, a

budget for the eurozone, a degree of fiscal union that doesn't seem to

recognise the reality of the last seven years.

Let me make two remarks under question. The first is, I think I am

convinced it could have been better for Greece to leave for a while and

to be supported by the others but direct it towards improving the

situation of the people's institutions in Greece. Nobody knows

what would have happened if Greece would have left, whether this would

have had contagion effect on the others. It is difficult to judge. On

the proposal in the euro area presented by the five presidents

recently in their report, they are suggesting Europe Monetary Union

should move in the direction of political union, especially in the

context of creating a fiscal union. For me, the key point is the

following. The fiscal union, however you define it in the end, it is a

question of European public spending, at least for a substantial

part of it. I think this can and only should happen in the context of

Democratic legitimacy. It is a fantasy. It is essentially creating

one of the pillars of an integrated United States of Europe but without

actually delivering the political reality of it. It is just fantasy

politics. I agree. It is fantasy or a vision for the distant future.

Whatever you might call it. But I see the risk that this demand for

creating a fiscal union will end in a transfer union without legitimacy

by the people. And I think, in your country when the democracy started

and public spending was taken over from the king and given to

Parliament, this is key. So, I see these developments as very

dangerous. I think in the end, people will not accept that.

Interesting that you call it very dangerous. I suspect many people in

the United Kingdom, of course where there is a great degree of this

isn't about the European Union, even amongst those who want to stay in it

echo your feeling. Let me talk to you about the so-called Brexit

possibility. As you know the referenda may happen as early as

this summer for the British people, in or out on the European Union.

Let's look at it from both points of view. From point a view of Britain

and Europe, speaking as a German, would it fundamentally change the

European Union if Britain were to leave? I think it would be a very

bad development for Europe. Germany would lose a partner in the fight

against your third bureaucracy and centralisation -- further, it would

be badly missed, especially in Germany but probably much less in

France come this British pragmatism. After the UK had left --

has left, the European Union will be a different element. But this has

consequences for the UK, because I see many British thinking that left,

their position will not be much different from being a half member,

so to say, of the European Union, taking the best of both worlds. I

think Britain in the future would have to deal with different European

Union issues in which protectionist attitudes would dominate much more

than with the presence of the UK in the European Union. This is very

important because the advocates of an exit here in the UK say, look, we

will have an awful lot of leverage with the EU to negotiate a

favourable trade deal from the British point of view if we leave

because Britain is such a powerful economic player in Europe. The

European Union needs us just as much as we need them, so therefore let's

not make it parallel with Norway which is a very small country which

has to sign onto all of the European Union rules and regulations as part

of the European economic area. We in Britain wouldn't have to sign onto

everything because we are more powerful and Europeans will want to

trade with them. Are they correct in that? I've talked to many friends in

Britain on this issue and they think that the EU is not changed after

Britain has left. I think it would be a dramatic change and of

course,... Are you telling me that if Britain leaves and EU changes,

the EU mindset will be much more protectionist and much less inclined

to give Britain a favourable trading relationship with the EU? Exactly. I

think in economic terms, it is clear, the EU would hurt itself. But

in such an environment, extreme parties on the continent will get

more power and for the trouble in France, this argument that you heard

yourself, if you protect the market against Britain, this market will

not really prevailed over political interests. I am afraid. I hope I am

wrong. One other specific point, David Cameron right now is in the

midst of negotiations trying to persuade fellow British European

leaders to let him have concessions, particularly on cutting benefits and

welfare payments to EU migrants who are living and working in the United

Kingdom. He wants to have at least four years of limitations on benefit

payments and he wants them scaled to the local economy in a country like

Poland rather than based on the cost of living in the UK. These are quite

important changes. If he wins concessions, if he wins those

changes, what a government like Germany demand the same changes also

inside Germany? You asked exactly what I wanted to say. My hope is

that in these negotiations of Cameron with his EU partners, we

will find a solution to prevent welfare migration. Because this

cannot work. No country can digest welfare migration and Germany, with

the highest social benefits in Europe, would gain a lot if it could

establish a system in the context of the negotiations which could be at

least setting some limitations to the welfare migration. Again, to put

it crudely, would Germany want to copycat and? Because the Eastern

Europeans would not want that and they're trying to bring this into

say whatever concessions are given to Britain are absolutely not going

to be accepted for any other country like Germany -- Cameron? For the

moment I think Germany would not go this way but in the context of the

refugee crisis, the fiscal burden, Germany will grow when a diamond

should in which this issue will have to be seen from a different

perspective. Let's talk about a future of one or two years, this

situation will change almost everything in Germany and the nice

fiscal position, the budget surplus will be totally changed and there

will be limits to the welfare system and so on. In this context it might

happen. If I may say so, you have led to my last question. I began by

talking about uncertainties facing Europe, one of them is the shadow of

a possible Brexit from the European Union but another is the migration

challenge, most of all in Germany where you have a million migrants

who came in last year and you may well get similar numbers this coming

year. To what extent is this going to challenge our perception of

Germany as the rock of stability at the heart of Europe? I think this

rock of stability is in great danger. I think Germany has two ways

to react to the refugee problem. One is by pathological learning, seeing

unemployment rising, social unrest increasing, and then hopefully

reacting to that, or in treating this challenge by making the economy

much more flexible because integration, quick integration in

the labour market, is key. If this cannot be achieved, I think not much

from the rock of stability will be left. Really? You fear for this rock

of stability, do you? Yes. I feel it has to be deserved and Germany has

enjoyed a kind of Goldilocks situation four years. Full

employment, budget surplus, low inflation, our consumption has

picked up and stabilise the economy. Everything looked perfect.

This is a dangerous situation creating complacency and this

complacency is now absolutely forbidden in the context of this

challenge of the refugees. Well, we have to end back there but Otmar

Issing, I thank you very much for being on HARDtalk. My pleasure.

Nowhere near as cold as it was this time

yesterday, but still a chilly start to the day with frost across parts

Generally more cloud around which is producing rain.