Excessive government spending hampering ECB's work, Knot says

ROTTERDAM (Reuters) - Excessive government spending has made it harder for the European Central Bank to lower inflation and tighter government discipline is needed to make the new budget rules work, ECB policymaker Klaas Knot said on Tuesday.

The ECB raised interest rates at a record pace in 2022 and 2023 to combat inflation. It expects policy reversal, which began with a rate cut in June, to be slow as price pressures continue to linger and inflation is seen staying above the ECB's 2% target until the end of next year.

"We see that an inappropriate fiscal stance can hamper the efficacy of monetary policy," said Knot, the Dutch central bank chief. "In this case, a more restrictive fiscal policy would have been desirable."

While new fiscal rules were introduced in May, Knot said these did not mean an automatic improvement in the relationship between the ECB and finance ministries across the 20 nations that share the euro.

The new rules give governments increased flexibility to spend more during downturns but they will only work if national governments reduce their debt during upturns.

"Whether this happens will largely depend on compliance and enforcement of the rules," Knot said. "In this regard, the new EU fiscal framework will immediately have to prove itself."

It would be helpful if the bloc had some sort of central budget capacity as during the pandemic, but overall spending should not increase, so any supranational spending must be accompanied by reduced spending in national budgets, Knot argued.

EU nations joined forces during the pandemic to fund the Next Generation EU recovery fund but some countries, particularly Germany, insist that this should be a one-off and there must not be any permanent joint borrowing.

The ECB has long argued that balancing out a single monetary policy with 20 different fiscal policies is next to impossible, and that some form of a joint budget would make policy more efficient and less costly to growth in periods of excessive inflation.

(Reporting by Stephanie Van Den Berg; writing by Balazs Koranyi; editing by Susan Fenton)

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