Philip Lane prepares to take responsibility for avoiding ‘Japanification of Europe’

When Otmar Issing, one of the prime architects of the euro, was asked in 2001 to help select an outstanding European economist under 40, one name stood out.

The work of a 32-year-old Trinity College Dublin associate professor, Philip Lane, had won the attention of the award panel after he painstakingly built up a picture – with the IMF economist Gian Maria Milesi-Ferretti – of a little-explored area: the assets and liabilities of various countries.

"This was extremely important work which changed the way research on open economy macroeconomics is carried out, analysing changes in assets and liabilities rather than just capital flows," said Francesco Giavazzi, an economics professor at Milan's Bocconi University, who sat on the panel with Issing that awarded Lane the inaugural Germán Bernácer prize.

Lane, now 49 and governor of the Central Bank of Ireland since 2015, is set to be confirmed on Friday by European leaders as the Republic's first European Central Bank (ECB) executive board member. He is also the favourite to become the organisation's chief economist, a mantle first worn by Issing.

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Amid the sometimes catty rivalry between commercial and academic economists, the selection of Lane – who spent most of his working life as a professor in the field – is one up for the scholars.

“Having an academic background is very important as it gets you into a habit of analysing issues with an open mind and from a deeper perspective than if you analyse them from just a policy point of view,” said Giavazzi.

“The chief economist of the ECB is the person who, in agreement with the board, makes the policy proposal on which the governing council then votes. It’s a crucial role as it is very influential in setting the stage for debate.”

Bond-buying

As Lane prepares to surrender his second-floor office overlooking the Liffey at the Central Bank in Dublin for a 38th-floor bureau in Frankfurt, Germany, the ECB finds itself in uncharted and uncomfortable territory.

At the end of last year the ECB officially closed its €2.6 trillion quantitative easing bond-buying programme which was launched in 2015 in an effort to reboot inflation and the economy.

The plan had been that the bank would gradually start moving its main rate, at zero for the past three years, higher in the second half 2019. However, earlier this month the bank said its key rates are set to remain on hold until next year at least.

It also signalled that it remained in fire-fighting mode by unveiling another attempt to stimulate bank lending – through a third programme of cheap funding for lenders known as TLTRO-III – amid mounting fears about the euro zone economy.

The single-currency region recorded its lowest growth rate in four years in the last three months of 2018, and number crunchers in the ECB department that Lane may soon lead recently slashed their 2019 growth forecast to 1.1 per cent from 1.7 per cent, and their inflation estimate to 1.2 per cent from 1.6 per cent.

The ECB’s central target is for an inflation rate close to 2 per cent. However, core inflation – excluding energy, food, alcohol and tobacco – hasn’t touched that level for more than a decade.

The causes of the slowdown include international trade tensions, easing Chinese growth, the German car industry’s struggle to get to grips with new emissions standards, and a stagnant Italian economy.

For Stefan Gerlach, the Swedish-Swiss former deputy governor of the Irish Central Bank, Lane is an ideal choice to rebuild the economic expertise on the executive board. ECB chief economist Peter Praet's departure in May will soon be followed by the exits of fellow heavyweights president Mario Draghi and Benoit Coeure.

“Some possible candidates for these jobs will not bring much economic know-how,” says Gerlach, now chief economist at EFG Bank in Zurich.

He added that an otherwise credible name, Germany's hawkish Bundesbank president Jens Weidmann, had disagreed so strongly with the ECB governing council's crisis-fighting decisions that it was "hard to see him as an effective chairman".

“The question of the successor to Mario Draghi is seen by many entirely from a national perspective in much the same way as who will win the Eurovision Song Contest,” said Gerlach.

Early marker

Lane's path to his new post also involved political considerations. The Minister for Finance, Paschal Donohoe, pulled his name from a race for another ECB role last year as it became clear that rival candidate Spain's economy minister Louis de Guindos had the critical political support of his fellow finance ministers. Still, the early marker helped ensure Lane would be unopposed this time around.

Lane's credentials are without question, according to observers. A top-ranked economics student when he graduated from Trinity College Dublin (TCD) in 1991, Lane went on to secure a PhD in economics at Harvard University in Cambridge, Massachusetts. He followed up with a two-year stint at fellow Ivy League school Columbia University, before returning to Ireland in 1997, where he started off as a TCD lecturer.

By the time Lane was selected to succeed Patrick Honohan as Central Bank governor in late 2015, he had been the head of TCD's economics department for 12 years.

Lane told The Irish Times last November that he first became interested in economics as a fourth-year student in Blackrock College in south Dublin, baffled by the country’s high unemployment rate and mass emigration in the mid-1980s.

“I was reading at the time about Japan being amazing, America being amazing, and Ireland being so gloomy,” he said. “It was always puzzling why this country was so gloomy.”

However, if he becomes the ECB chief economist one of his main tasks, according to observers, will be to help avert Europe following in the footsteps of Japan, which has been struggling for almost 30 years with extremely high public debt, anaemic growth and low inflation.

"If I were to say one thing on what Philip Lane's challenge is from day, I think it's all about avoiding the Japanification of Europe," said Guy Monson, chief investment officer with UK-based asset management firm Sarasin & Partners.

“Italy is the big one,” he says, noting that the country is trapped in a situation where its public debt stands at more than 130 per cent of the size of its economy, the unemployment rate tops 10 per cent, and there is no wriggle room for the government to provide fiscal stimulus.

More dovish

Analysts at Spanish bank BBVA concluded last month after reviewing Praet and Lane speeches that the Irish economist has been more dovish in tone, or supportive of looser monetary policy, in recent times. This has especially been the case since the Brexit referendum, “possibly reflecting the potential impact” on Ireland, they said.

Lane has also ventured beyond monetary policy. When asked by Draghi, in his position as chair of the European Systemic Risk Board, in late 2015 to develop a plan to keep euro zone states’ borrowing costs low without triggering fiscal union, Lane came up with a sovereign bond-backed securities proposal. It would pool bonds from euro zone countries into a single investment, while avoiding going down the politically-problematic route of full-on eurobonds.

While the European Commission took up Lane's plan last May, it has stalled because some member states, notably Germany, are averse to the notion of joint borrowing by euro zone countries.

If anything the German political appetite is hardening. Chancellor Angela Merkel’s successor-in-waiting, Annegret Kramp-Karrenbaurer, used a speech on the future of Europe this month to rail against the “communitarisation of debts”.

Meanwhile, there is much for Lane to contend with on the monetary policy front, according to Giavazzi.

"He will be coming in at a time when, in my view, the ECB needs to rethink its monetary policy strategy. In recent months there's been a lot of action by US Federal Reserve staff questioning the traditional inflation-targeting strategy. The same needs to happen at the ECB. The bank has avoided disaster in Europe but is finding it increasingly difficult to achieve its own inflation target of close to – but below – 2 per cent."

The ECB needs someone with a research background to start the work, according to Giavazzi. “If you look around the table, there’s nobody else who can do this other than Philip.”

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The Government has committed to a “comprehensive” search for Lane’s successor at the Central Bank. Here are some of the potential candidates.

Sharon Donnery

Deputy Central Bank governor for the past three years, Donnery gave a clear indication of her ambition last year when she put herself forward to become the chair of the ECB's all-powerful banking supervision arm, the single supervisory mechanism (SSM). While she lost out to Italian economist Andrea Enria, she is seen in political and central banking circles as the favourite to succeed Lane and become the first woman – and first internal candidate – to head up the Central Bank.

Robert Watt

Robert Watt, secretary general at the Department of Public Expenditure and Reform, went up against Lane in 2015 for the Central Bank governorship, and is said to be considering putting his name forward again. An economist by background, Watt was appointed as the top official at the department in 2011 when the State was in the middle of a three-year international bailout programme and austerity drive. He previously served an assistant secretary in the Department of Finance, and also worked with Indecon Economic Consultants and London Economics.

Derek Moran

Department of Finance secretary general Derek Moran, who stepped into the role in 2014, is also widely tipped as a potential candidate. Moran previously served as an assistant secretary general with responsibility for the fiscal policy, budget and economics divisions, and led on tax policy issues between 2006 and 2014. This covered the height of the boom, when property transaction taxes filled the exchequer’s coffers, and the worst point of the financial crisis as successive governments pushed through €30 billion in tax increases and spending cuts to try to balance the budget.

Andrew McDowell

Andrew McDowell, vice-president of the European Investment Bank in Luxembourg since 2016 and a former senior adviser to Enda Kenny when he was taoiseach, was reported last month to be in the running to become the next Central Bank governor. The holder of a masters degree in business studies, banking and finance, and a separate masters in business administration (MBA) with the UCD Michael Smurfit Graduate Business School, McDowell served as director of policy with Fine Gael for more than four years before the party took power in 2011.

Alan Ahearne

Alan Ahearne, a professor of economics at the National University of Ireland, Galway, and a contrarian on the property market before the crash, served as a special adviser to former minister for finance Brian Lenihan between 2009 and 2011 as the then government grappled with the unfolding banking and economic crisis. After obtaining his doctorate in economics at the Carnegie Mellon University in Pittsburgh in 1998, Ahearne went on to work for seven years as a senior economist with the Federal Reserve Board in Washington.