Deflation in the euro zone is as unlikely as strong inflation, European Central Bank governing council member Guy Quaden said in an interview published today.
Asked whether financial markets, with low long-term interest rates, were right to fear deflation, Mr Quaden told Belgian business dailies L'Echo and De Tijd: "You cannot rule out that the bond markets are overdoing it at the moment. But deflation is as unlikely as strong inflation."
Mr Quaden said he believed that investors were assuming that inflation would be around 2 per cent in the coming years, close to the ECB's target.
Both Federal Reserve chairman Ben Bernanke and ECB president Jean-Claude Trichet had been clear at a conference in Wyoming, that high inflation was not a good way to stimulate the economy or to cut government debt, Mr Quaden said.
"Look at the consequences of high inflation in the 1970s," he said.
Mr Quaden said a Keynesian stimulus package by governments and monetary authorities had averted the worst during the crisis in 2008/2009. Over time, though, the negative effects of budget deficits would outweigh the positive impact.
"I do not plead, and nor does Jean-Claude Trichet, for brutal and immediate austerity, except in the case of Greece. What is necessary is quickly to put in place credible plans gradually to clean up public accounts," Mr Quaden said.
The ECB last week extended its liquidity safety net for vulnerable euro zone banks into next year. Mr Quaden said the state of the bank sector was not "dramatic", as was the case two years ago.
"The results of the stress tests carried out this summer were favourable for most European banks. But the condition of the bank sector is not yet totally normalised," Mr Quaden said.
Two factors explained the ECB's decision to extend unlimited credit: nervousness was common at the end of a year in money markets and a number of long-term operations expired then.
In comments released on the newspapers' websites, Mr Quaden said that euphoria regarding the economic recovery was premature, but that optimism was legitimate.
Mr Quaden said too that the primary objective of monetary policy is and must remain price stability, but that this did not guarantee financial stability, something central banks would also have to address.
Mr Quaden continued that to do so they must have complete and immediate information on state of financial institutions.
Reuters