FRANKFURT (Reuters) - Central banks should give governments "space" to invest in the green transition and more robust supply chains, the former head of the European Central Bank, Mario Draghi, said on Thursday.
Draghi has been mandated by the European Commission to come up with proposals to revitalise the EU's economy in the face of competition from China and the United States and will consult with EU finance ministers next week.
His call for coordinated action challenged the most orthodox thinking about the independence of central banks such as the ECB, which has raised interest rates to record highs to fight a bout of inflation triggered in part by higher energy prices and supply snags.
Draghi said that governments needed sufficiently low borrowing costs to finance decarbonisation and diversify supply, as well to counter shocks coming from abroad.
"In (the) near term, whether fiscal policy will have sufficient policy space to deliver on its various goals will depend on central banks’ reaction functions," he told the U.S. National Association of Business Economists.
"And looking further ahead, if potential growth stays low and public debts remain at record highs, debt dynamics will be mechanically affected by the higher level of real rates."
He said central banks should focus on inflation expectations remaining anchored and look through "temporary upward price shocks".
Governments, for their part, should "set out credible fiscal paths" focussed on investment, which in the European Union could be done at a central level, Draghi added.
He conceded that the EU policy architecture - in which the ECB is independent, banned from financing governments and has a primary mandate of controlling inflation - was "not designed to deliver" this level of coordination.
But he cited action taken during the COVID-19 pandemic - when states spent liberally and the ECB bought record amounts of government bonds - as an example of what could be achieved.
"It is important to remember that independence does not have to mean separation, and different authorities can join forces to increase policy space without compromising their mandates," Draghi said.
During his tenure at the ECB, Draghi was often criticised by his more orthodox German colleague, then Bundesbank President Jens Weidmann, for "blurring the lines" between fiscal and monetary policy with measures such as bond purchases or emergency lending to Greece.
His report to the Commission is due in the summer.