A Conversation With Christine Lagarde

European Central Bank President Christine Lagarde discusses the state of the European economy, U.S.-EU economic cooperation, and the implications of international geopolitical conflicts on the global economy.

This meeting is held in collaboration with the Peterson Institute for International Economics.

The C. Peter McColough Series on International Economics brings the world's foremost economic policymakers and scholars to address members on current topics in international economics and U.S. monetary policy. This meeting series is presented by the Greenberg Center for Geoeconomic Studies.

FROMAN: Thank you. Well, good afternoon, everybody. Thank you for coming. Welcome to the Council on Foreign Relations. I’m Mike Froman, president of the Council on Foreign Relations.

And welcome to today’s C. Peter McCullough Series. We’re honored to have Christine Lagarde, who is no stranger to the Council, no stranger to Washington, D.C. And it is a really great honor to have you here. We know how busy your schedule is.

This meeting is cosponsored by the Council on Foreign Relations and the Peterson Institute for International Economics. And I want to thank Adam Posen, who’s here, president of the Peterson Institute, for their collaboration on this and several other events this week, and look forward to many more collaborations in the future.

In addition to the folks we have here in the room, we’ve got about 300 people on Zoom. We will have a conversation for about a half hour, forty minutes, and then open it up to questions both from the room and, time permitting, from people online as well. All of it is on the record. President Lagarde, welcome.

LAGARDE: President Froman. (Laughter.)

FROMAN: I think there’s probably more—you know, more momentum behind a President Lagarde than there is behind a President Froman. (Laughter.)

Let’s start with the economic outlook. You have been successful in reducing inflation from a high in 2022 of 10.6 percent to about 2.4 percent.

LAGARDE: Latest reading, yeah.

FROMAN: And not—in fact, you’ve done further. You’ve done a better job of controlling inflation than the U.S., even though you’ve had higher energy price shocks than we’ve had here in the U.S. What accounts for that, do you think? And what is your basic economic outlook for the eurozone going forward?

LAGARDE: Comparisons are odious, as we all know. And I wouldn’t say that we did a better job at controlling it. I think that we’re talking about two different kinds of inflation, if only because of the roots, the drivers behind the inflations. You mentioned the energy prices and the shock that Europe suffered after the unjustified and horrible attack of Russia against Ukraine. I don’t think that the energy shock hurt and damaged the U.S. economy and required that the U.S. economy transformed its business model, as it did for Europe. So if you take only that energy difference, plus the fiscal policies that were decided at the time, you have two elements that actually define inflation in a different way. As a result of which, the fight against inflation was of a different nature and took a different time on that side of the pond, or in Europe.

So I would not—you know, I wouldn’t give anybody a grade as to who did better than the other. I think it was—it has been, it still is today because it’s not over yet, it’s a different—it’s a different kind of animal that we are trying to time. And that explains the difference that we have, because we are at 2.4. That’s the latest reading in March. And CPI was at 3.2, if I recall. And underlying inflation, core inflation if you will, to use that measure, excluding oil, energy, and food, is 2.9 when it is 3.9 for the U.S. So that’s the differentials that we have between us.

So on the economic outlook, I’d say growth in Europe has been mediocre, and has been much slower than growth in the United States. If you combine the cumulative growth in the—in Europe since COVID-19 hit us all until now, you’re talking about 3 percent cumulative growth. Compare that with the U.S., 6 percent. So that—there have been years up and down in different—you know, not exactly aligned. ’22 was a very good year for Europe. Wasn’t a good year for U.S. It had—the U.S. had a recession. ’23 was very good for the United States, and very mediocre for Europe. We haven’t had a recession, but it’s been very, very slow and meager.

But on both sides you have an employment and a job market which is phenomenal. The unemployment—and the unemployment rates in Europe are as good as they have ever been. The unemployment rate in Europe is as low as it has ever been since ever measured. And in the U.S., you have a very, very tight labor market, which explains some of the inflation phenomenon that we see. And so that’s just using those two metrics as an indicator of where we are. And in terms of where we see Europe going forward, it is recovering and we are clearly seeing signs of recovery now, beginning, timid and picking up in the course of ’24. And our forecast for ’25-’26 is 1.5-1.6 percent growth, which is, of course, much better than the 0.5 and expected 0.6. this year.

FROMAN: Right. Let’s talk about that. And somebody brought some statistics to my attention that I was a bit surprised by. And I say this as a friend of Europe. In 2008, the GDP of the eurozone and the United States were basically equivalent, about $14 ½ trillion. 2023, the U.S. is 75 percent larger than the eurozone. And if the eurozone were a state, its GDP per capita would be the fifty-first state. What accounts for that? What happened either here or there to account for this growth differential?

LAGARDE: Well, if you take 2008, it’s not random choice, right? We had the great financial crisis, which hit both the U.S. and Europe. But Europe didn’t stop there. We had the second wave of crisis, which was called the, you know, sovereign debt European crisis, which was ripple effect, spillover from the great financial crisis. And the insufficient construction of the euro area as a monetary union with no fiscal union, no banking union, no capital market union. Now, we might want to come back to those. If you combine that with, I think, one item which is critically important and which explains a lot of the difference between the two economies in terms of evolution over time, its productivity. It’s just mind boggling. Productivity in the United States between 2019 and now has been 6 percent. Europe, 0.6 percent.

FROMAN: OK, why is that? What—is it distribution of technology? Is it labor markets?

LAGARDE: Yeah, I’m only just a central banker. (Laughter.)

FROMAN: Watch your wallet, when people say, “I’m only a central banker.”

LAGARDE: But you listen to some of the finance ministers who are taking the floor now or talking to microphones along the way, and they will say the same things. We need structural reforms. We need to unleash the power of the single market. We need to improve the productivity. We need that fourfold union—not just monetary, but fiscal, banking, and financing of the economy. And there’s a lot of talk about it. And there is not enough action, in my humble view, as a poor central banker who would like to see those things progressing because it would facilitate my life.

FROMAN: You’ve been working on this for years, those four elements of the union. Do you think that the current set of geopolitical crises that, in some ways, have been political challenges—including here in the United States which have people in Europe saying we better be prepared to go it alone—do you think this could be the catalyst for significant progress towards—

LAGARDE: No. I don’t think that that would be the catalyst. But I think that we are in a catalyst situation. Because if you’re—and I’m clearly focused on one, which is this—the deep and liquid financing of innovation and enterprises in Europe. Because there are lots of innovators. There are lots of entrepreneurs. But they run away from Europe. They go somewhere else to get financing. So we need to address that particular issue. Keep the savings in Europe. Finance the entrepreneurial spirit and the innovations that are taking place in Europe.

And if you look at the history of the financing of—let’s call it the financing of innovation. The technical word is capital market union. So if you hear CMU, that’s what it is. It’s financing innovation, moving an invention into a project, the project into the business, and getting the financing to do that. When you look at historical developments, and you know that well, these transformations and the deepening of markets and the mass of liquidity made available has only taken place when there was a massive structural change that required financing.

In the United States, it was the railroad industry and the transformation of the country with mass transportation. Financing was needed on a federal basis. And that’s how capital market union occurred. And the same thing happened in the U.K. The move from rural to urban development and to—and the industrial revolutions also led to the development of liquid, deep financing pools that helped develop those countries. We are currently and certainly—I would support everywhere in the world, but certainly in Europe given the political determination of public opinion, representatives, and business, we are on the cusp of that needed transformation to adapt to climate change, and to mitigate climate change.

And if you are to believe the figures provided by the commission, we are talking about 600 billion per year. Mario Draghi is now saying 500 billion per year. But whether it’s 500 or 600, it’s a huge amount. And when you look at the fiscal position of the member states in Europe, not many can afford that on an annual basis until 2030. And if you look beyond 2030, if you want to comply with the political commitments that have been made, it’s not 500 or 600. It’s 800 billion per year that you’re talking about. That will require private money, private capital, savings to be invested in that transformation.

FROMAN: So you think climate change can be the catalyst for moving from what’s been a bank-dominated market to more of capital markets?

LAGARDE: Yes. Yes, I do. I know it’s not fashionable anymore to talk about climate change. It’s gone off. But the climate threat has not turned off. It is there. And the political commitment by the Europeans certainly is intact, and very much needed. And in need of financing. Digital transformation I think is going to be another one. The financing needs are not as phenomenal, but they are truly important when you look at how much is invested in AI by the private sector in this country compared with what is invested in Europe. There is also a crying need for money.

FROMAN: One last question on the—on the macro piece before we move on. When you were here last at CFR—we have very good archivist and librarian, we pulled out all your old—

LAGARDE: Oh, dear. Yeah. So you’re to quote me, yeah.

FROMAN: Everything you’ve said has been on the record. You were asked by my predecessor about the 2 percent target for inflation. And you said, we’ll talk about potentially revising the 2 percent when the eurozone hits it. You’re now at 2.4 percent, pretty close. Are you talking about revising the 2 percent?

LAGARDE: You know, go back to my quote, because what I’m likely to have said is that you don’t change the rules of the game in the middle of the game, probably. So maybe you are interpreting a bit.

FROMAN: I’m paraphrasing.

LAGARDE: Yeah, a little bit, a little bit. (Laughter.) Pushing the envelope a bit. (Laughs.) And that’s my struggle here.

FROMAN: And we’re still in the middle of the game?

LAGARDE: The game is not over.

FROMAN: Yeah.

LAGARDE: Yeah.

FROMAN: All right.

LAGARDE: And, you know, I think it’s—and it’s like the discussion about R-star, on the natural interest rates. It’s a fascinating topic, a difficult one, and one that is going to agitate the brainpower of many brilliant academics. But we need time on this issue of what is the right target, how do we index properly? So people have to do what people have to do. For the moment, my job is price stability, its taming inflation, sustainably so, and then making sure that it stays there.

FROMAN: As I understand it, the 2 percent originally came from—

LAGARDE: New Zealand, yeah.

FROMAN: —some enterprising New Zealand central bank governor, great economic power that New Zealand is, to say: This is the rate that we should go for. And everyone else said, sounds good.

LAGARDE: Well, I think it was—(laughs)—yeah, maybe so. I wasn’t there at the time. (Laughter.) But I think—

FROMAN: Adam will provide the rebuttal later.

LAGARDE: Well, I think it was Alan Greenspan who said, well, you know, 2 percent is OK because of this, this, this, and this reason. And I think the ultimate argument that he made, which I think is very relevant actually, because a lot of it has to do with expectations and the perception of the reality, I think he said something like at 2 percent people hardly feel it. And so I don’t think this was just a New Zealand invention.

FROMAN: Just deference to New Zealand. OK. Let’s switch to a slightly larger country, China. It used to account for about a third of global growth. Now it’s facing significant economic headwinds that its leadership is working their way through. It appears that one way they’re going to try and work their way through it is to go back to the playbook of export-led growth, precisely at a time when trade tensions are high. There’s talk about decoupling. There’s a lot of anti-China feeling, particularly in the U.S. but increasingly convergence between the U.S. and other countries as well. One, how worried are you about the Chinese economy? What would you be advising them to do? And how do you think the U.S. and the eurozone, the euro countries, should respond to what has become a very meaningful political as well as an economic issue in terms of concern about EVs, solar panels, any number of sensitive technologies?

LAGARDE: Well, first of all, as the European Central Bank, we look at that very carefully. We monitor the activity. We try to get as clear and candid data as we can on the evolution of the economy. It is, by different measures, the second- or the first-largest economy in the world. And obviously, as we observed since 2015, what happens in China impacts the rest of the world in one way or the other. And, you know, whether we look at commodity prices, whether we look at trade channels, whether we look at financial stability, China plays a key role. And its activity has spillover impacts—spillbacks and all.

So it has—it has grown at an unbelievable rate for many years. I mean, you were a clear witness to that. You participated in all those trade negotiations around the world. And in the meantime, since China was allowed to join the WTO, and after the sort of holiday period, it has developed sometimes a double-digit, if we recall, and over a period of time at around 8 percent. It is now forecasting 5 percent. So it’s a significant decline from whatever they had in the past. And they even go as far as to say “a range of,” which is pretty unusual by Chinese standards. So lower growth, as was expected given the massive development that they have known and the aging of population and the reduction of the working population as well now.

We all know how China organizes itself. Once the objective is set, everybody has to fall in line, they have to deliver, and they have to provide the results that will eventually, on an aggregated, basis will return the 5 percent. So it’s a question of what will be the drivers. So many drivers have been tried. Export, infrastructure, real estate, a bit more of infrastructure, and now back to some industrial production that will both satisfy the domestic market but will also propel—and here I would be maybe a little more specific—that will propel trade to maybe newer or new destinations.

When you look at numbers, you see that trade between China and the United States has significantly declined. China used to be the first trade partner of the United States. No longer the case. But it is still today—and that number is growing—the top partner in trade for 120 countries around the world. So it may well be that, as we all do, there is an adjustment process where the capacity to mobilize production is no longer addressed to a market as large as the United States or market as open as Europe, question mark, and is now directed to lots of other countries, including in particular the nonaligned countries.

Which represent about—I think it was a Gita Gopinath study that was published a couple of years ago, so it needs updating I’m sure, but I think she concluded that the nonaligned countries—so those that are not sort of Western countries neither Eastern countries—represent 50 percent of global—not represent, sorry—are involved in 50 percent of global trade. It didn’t escape the attention of China. So I think what we are seeing is a transformation of an engine that China is familiar with, exporting its overcapacity to different directions, and maybe less so to the United States for reasons that, you know, can be explained, maybe less so to Europe, to be checked, and certainly more so to other countries around the world.

FROMAN: Do you think Europe will take protectionist actions to keep Chinese exports out of its market, the way the U.S. is likely to do?

LAGARDE: I have—I wouldn’t venture in that field. It’s, you know, I’m just a central banker.

FROMAN: Just a central banker. (Laughter.) We’re seeing the convergence of economics and national security. We’ve got the outbreak of wars in the Middle East and in Europe, we’ve got the tensions with China—

LAGARDE: Can I interrupt you?

FROMAN: Please.

LAGARDE: Because, you know, I didn’t want to answer your question about protectionism because I think it’s not for me to pass a judgement on that. But what I think has worked really well and should continue to work is better and deeper cooperation between those who can—who can trust each other. And I think that the transatlantic dialogue and the various commissions that have been set up, and sometimes been rejuvenated, with particular focuses on chips, on rare earth, and things like that, is a direction that should be pursued. And where those with genuine similar interest should try to cooperate, instead of trying to undercut each other, and subsidized here and subsidized there. Because I think that the subsidy race is a race to the bottom, and we shouldn’t go in that direction.

FROMAN: Well, let’s talk about that. The global trading system’s been largely based on the value of efficiency. A great deal of economics has been based on the value of efficiency, for multiple generations. And that is one very important value, improving consumer wellbeing, allowing them to buy more. But what’s become clear is when you see the convergence of economics and national security, efficiency isn’t the only value. Resilience, redundancy, security itself.

LAGARDE: True. Security.

FROMAN: And there are tradeoffs involved. And we can reduce dependence on China, it just comes at a cost—moving supply chains, moving them, reshoring, even friendshoring. They weren’t with the friends, because the friends are more expensive.

LAGARDE: Did you say “friends” or “French”?

FROMAN: Friends. But it could be French-shoring. (Laughter.) French-shoring, I like that, President Lagarde. (Laughter.) How do you think about if all of these alternative values represent a more costly economic system, a less efficient economic system, how does that play into your definition of what’s an acceptable level of inflation? Because suddenly—we’re going back to the 2 percent—if what we’re saying is actually for national security, for resilience, for redundancy, for diversification, we should be willing to pay more for everything we consume, will the central bank stop that from happening?

LAGARDE: Well, I think what you’re describing is something that we are seeing. And this change of the global value chain, change and improvement of the global supply chain, is taking place. If you look at, for instance, the shipping lines that were going through the Suez Canal, which are—not all of them, but about 60 percent of them now going all the way down to the Cape of Good Hope and back up along the African coast. You’re talking about—well, there are tradeoffs. You’re talking about less efficiency, more insurance cost, more shipping cost, more energy costs.

Now, granted, this does not represent a huge amount, relative to the freight that is being shipped around. It’s, you know, 1.5-1.6 percent, I think, overall. But it has other consequences, because to reduce the inefficiency generated by that phenomenon, which is geopolitical by nature, what happens? The shipping industry has to just put more fuel into the engines of those boats that go down and up again. And I was talking about climate change a little bit, about the commitment that policymakers have made. You open not a Pandora box, but a CO2 box that is—that is not a good one.

So we will have that. And that will take place. Are we going to, as a result of that, change of values, change our consumption pattern, operate differently? That’s a possibility. But everything being equal and no change taking place, it will be a factor behind inflation for sure.

FROMAN: It’s interesting you raise climate change. You have made climate change part of your mandate, part of the ECBs focus.

LAGARDE: No. No, because—I want to explain to you, because I’ve been—you know, I’ve been grilled on that. And I think that what I want to say is that the policies about climate change and against the consequences of climate change—be it adaptation or mitigation—that is not my responsibility. It’s the responsibility of governments, of parliaments, of those that set the policies. Not my job. But my job is to understand what the impact of climate change will be on our economies, on our analysis of economies, on the macroeconomic analysis that we produce. So we have to take climate change into account, for instance, when we design new models, or when we have a satellite model that includes the climate change component.

And in the same vein, we have to take climate change into account when we do risk management. So when we have a portfolio of corporate bonds, for instance, we need to know what is the real value of those corporate bonds. And when we have collaterals, or pools of collaterals, we also need to assess the right value of those collaterals, whether they’re issued by the gray—by the brown industry, by the brownish industry, by the green industry. So we’re trying to do that. It’s not an easy job.

On the first one, it’s becoming much easier because you have now models that can capture quite a lot, although it’s constantly—it’s in constant need of improvement. On the proper risk management of our own portfolio for monetary policy or nonmonetary policy purposes, we can do that by adopting some tilting process that we use to move actually the value of those corporate bonds in our risk management process. For collaterals, it’s more laborious. But we do that not because we are policymakers.

We do it because we must understand the consequences to better be able to—I’ll give you an example. When we have little rain in Germany, where the ECB is based, and you look at barges going down the Rhine, in times of drought barges are half empty, because the rain is too low to accommodate the traveling of those barges. When you have a major, major hurricane in Slovenia, it lost in a matter of three days 5 percent of its GDP as a result of the damage caused by this occurrence of exceptional weather that they never had before.

So we need—we need to capture that. But it’s not for me to say, got to do this, or this is the policy that has to be in place. So that’s why I’m saying I have not included it in the mandate, because it is part and parcel of what we have to do to deliver on the mandate. I did not ask members of parliament or ECB—European leaders to modify my mandate. My mandate is price stability. And to do that, we need to understand what’s going on in the economy. And we need financial stability, which requires that we do proper risk management. I tried to put my case to you.

FROMAN: Very helpful. We are at the Council on Foreign Relations. How do you incorporate geopolitics into those models?

LAGARDE: We generally—well—

FROMAN: You have wars, including on Europe’s borders.

LAGARDE: We try to incorporate that into our baseline. And we obviously are informed by events that have taken place in the past. And that’s one part of our deliberations, if you will. But we also have—there’s a judgment call that we made, collectively as a board and then the governing council which brings together the twenty governors of the national central banks that are part of my network. And that’s where it’s taking place. And we try to analyze the consequences. You know, one case in point, which is obvious, is what will be the impact on commodity prices? How will the, you know, oil and gas prices which have been critically important in the last three years, how will that respond to the current shocks in the Middle East? Obviously, we learned the hard way the consequences for Ukraine—for Europe of the horrible war started by Russia against Ukraine. So there is the consequences on that—on that country, and the suffering, and the hardship. But there is also lots of spillover impacts, on the energy front in particular but also on the food front.

FROMAN: Last question before I open it up, and just building on what you just mentioned about Russia and Ukraine, active debate going on about whether to seize Russian central bank assets, most of which are in Europe, to pay for reconstruction or to support the war effort. Congress, if it acts at all this week, may well act on a bill, the REPO Act, to indeed seize those assets, or to authorize the seizing of the assets. This is an area where the U.S. and Europe don’t seem to be on the same page. Why is that? Do you see—and by the way, I don’t think the administration was necessarily on this page to begin with, but evolved in that direction over time. Do you see that evolving in Europe? And how do you see that issue getting resolved?

LAGARDE: Well, first of all, let me remind you that, all things being considered at this point in time, Europe is contributing financially more to Ukraine than any other country at the moment. Number two, in February Europe committed 50 billion euros, which is, depending on exchange rates, $50-ish billion, to Ukraine over a period of three years contribution. The expectation was that on this side of the Atlantic there would be that contribution of $60 billion to Ukraine. So, yes, there is that huge expectations, that promises made, vote passed by the Senate, will be delivered upon by the House. And I pray that that happens for the credibility of those who made the promise, number one, but more importantly for the sake of Ukraine. At the end of May, they will be short of 2 billion euros. And that will—2 billion euros, you know, on the immediate financing on a cash flow basis, if you will. And that will carry on. So they need that financing from all of us.

So what you’re talking about is the reconstruction of Ukraine. I think there is not a single doubt anywhere in Europe that Russia should pay for the reconstruction of the damage that it has done, is doing, to Ukraine. Not a single doubt. That’s the reason why we all decided the day after the invasion, to freeze any Russian assets that was held by the national central bank. Which is a very—it’s a very harsh measure. It’s not been done very often. And it’s with a view to doing two things. One is encouraging and pushing those who hold these assets, the Russians, to come to the negotiation table. And it’s known by those who negotiate those peace settlement that having something out there to hope for is helpful. But second, and more importantly, to pay for the reconstruction of Ukraine. Those were the two principles that guided this quite extraordinary act that was conducted in all the G-7 countries and beyond, because Australia and a couple of others did the same thing, to the extent that they were holding assets.

Now moving from freezing the assets to confiscating the assets, disposing of them, is something that needs to be looked at very carefully, because if you start breaking the international legal order that you want to protect, that you would want Russia to respect and all countries around the world, you need to ask yourself, by precipitating the availability of those funds—it’s not a question of the principle that it must be available for reconstruction. On that. I think we all agree—or, the European leaders all agree, I think, on that. But precipitating the availability of it because financing is not available elsewhere, that’s the reality, that opens a whole series of other questions which have to do with respect of the international legal order, which have to do with financial stability, which have to do with joint effort and therefore joint liability for doing that and guarantee that we give to each other. So that’s, you know, in a nutshell, where we are.

FROMAN: But those questions—those are all legitimate questions, of course. But they’ve also been addressed here, too. And people have gotten comfortable that there is a legal basis, that—well, you’ve seen the reports, I’m sure.

LAGARDE: No, I’m saying—I’m saying that because—no—

FROMAN: But why do you think the U.S. and the EU have ended up on separate—on opposite sides of this?

LAGARDE: Well, first of all, I think there is a huge asymmetry if you look at the volume of assets that is frozen on one side and frozen on the other side.

FROMAN: Absolutely.

LAGARDE: You talking about six billions here and you’re talking about 220 billions on the other side, OK? So that puts—that puts the partners in a slightly different position. Number two, I think the issue of international currency is also a symmetric in some ways, and that needs to be taken into account. Number three, I have seen at least now four different schemes or proposals to sort of circumvent what many other jurists, lawyers, including in some administrations in this country, regard as a very serious legal obstacle. And can be—that can be construed as a violation of international—the international legal order.

FROMAN: Do you think some of these middle ground ideas about using the interest, the earnings, using it as collateral for loans, do you think those are—have any greater likelihood of being adopted jointly by the U.S. and Europe?

LAGARDE: There is work ongoing. I’m not going to say much more on that. But I don’t think that, you know, one should doubt the determination and the willingness of the Europeans, and the Japanese, and, you know, quite a few others, to try to secure this large pot—it’s only half what will be needed by Ukraine at the end of the war, I hope. But to secure that and to make sure that it’s allocated to reconstruction.

FROMAN: All right. Terrific. Let me open it up. Let me ask Adam, my cohost, my cosponsor, Adam Posen, whether he’d like to have the first question.

Q: Thank you, President Froman—(laughter)—and President Lagarde.

FROMAN: President Posen.

Q: Thank you for joining Peterson Institute and Council together again today. Thank you very much.

We have a great audience. I’m going to keep it brief. Let me ask you a more narrowly economic question. One of the joys of your job is we live in a world of flexible exchange rates. So you’re able to set monetary policy, as you said, with a different set of shocks in Europe, a different productivity path in Europe than in the U.S. But this does seem to have something to do with the dollar-euro exchange rate. How do you think about that feeding into the ECB’s calculus? Whether that’s directly in terms of inflation pass through or interactions of capital flows? I mean, does this come up in the governing council, that euro is near parity and might go lower if the ECB does what it says it’s going to do? Thank you.

LAGARDE: Thank you very much President Posen. (Laughter.) Thank you, Adam.

So, the scripted response that I should give you is the European Central Bank does not target exchange rate. Boom. (Laughter.) But obviously, we look at it very carefully. (Laughter.) And we monitor developments. And while we have a single mandate with, you know, a primary objective of price stability, obviously, we have to take into account the impact that exchange rate variations will have on our inflation. And it’s obvious—and I will not tell you that, you know it inside out and better than me—that movement of currencies may have an impact on inflation by way of imported inflation. It’s probably—I think that’s the sort of short answer that—for the purpose of this discussion. But we could go deeper into that, because there are lots of little net-offs (ph) that take place also as a result of that. So we look at that carefully. We insert that into our projections, in order not to be blindsided by this proper statement, we do not target exchange rate.

FROMAN: All right. Yes, right here in front.

Q: Hi. My name is Diep Nguyen-van Houtte. I’m the senior manager of the climate business department at the International Finance Corporation, which is the private sector lending arm of the World Bank Group.

And climate has not gone out of fashion with me yet. In fact, I still talk about it every day. I’m very interested in the CBAM, the Carbon Border Adjustment Mechanism, that the European Commission has passed. And I’m following how each national government in the European Union is implementing policies to adhere to the CBAM. What would be your advice, or have you coordinated with the U.S. government, on this carbon border mechanism?

LAGARDE: You know, I’m afraid that I’m out of my depth on your question. And I don’t want to pull the wool over your eyes and give you a fluffy answer, which will—which will not say anything. So I follow as much as you do. I know what has been decided. But beyond that, I’m not familiar with how they arrived to this, whether they coordinated or not. And I know that it will be implemented in Europe but, you know, I know my limitations.

FROMAN: Dov Zakheim, the third row.

Q: Thank you. I’m Dov Zakheim. I am not a president. (Laughter.)

You talked a little bit about national security. But one thing you did not ask about was the impact of the increase of NATO spending—and, of course, NATO pretty much overlaps with the EU. Some nations are actually doubling their defense spending now. And so—and they are not, it appears, reducing domestic spending at the same time. So you’ve got the 50 billion you mentioned. You’ve got the defense spending on top of that. You’ve got no reduction in social spending. How does that figure into your inflation estimates?

LAGARDE: You’re actually quite right to include that as additional area of spending that will have to take place over the course of time, and sooner rather than later. And I think by our calculations for all countries—sorry—for all euro area countries that are part of NATO, to reach that 2 percent threshold I think would represent roughly 53 billion euros per year. If you include that same 2 percent threshold of GDP for countries that are part of Europe but not part of NATO—yet, maybe—you’re talking about 70 billion euros. So that’s—everything needs to be put in perspective.

So you’re talking 500 billion euros for the climate adaptation and transition. You’re talking roughly 100 billion for the digital transformation. And given what is already being spent on defense, you’re talking about a maximum of 70 billion additional per year. So those are very significant amounts. Hence, the reason why we cannot assume that this will be paid for by public money. Some of it will. And there will be a question of prioritizing spending, given the fiscal space that some of the member states have. But there has to be a massive call for private sector financing of, in particular, the climate transition.

FROMAN: Jane Harman.

Q: I’m Jane Harman, a former president of the Wilson Center. (Laughter.)

And I’m intrigued by this new term, “French-shoring.” (Laughter.) But more seriously, my question is about protectionism, and the rise of protectionist and in our country, and the rise of protectionism in Europe and how that will affect your job and the financial success of Europe in general and the United States.

LAGARDE: Again, it’s not going to be fashionable, but I’m president. A former president’s always a president. You know, the taxi drivers in Paris, they keep calling me Madam Minister. (Laughter.) You know, I strongly believe that trade—with level playing field associated with trade—and that’s a big “if,” as, as we know—is indispensable to the development of welfare, is conducive to better relationships between countries and between people, and between actors in our economies. And that moving towards protectionism has been terrible—a terrible development in our history and has led to more war than we can even imagine today.

So my hope is that we can be strong enough to accept that principle and try to continue the dialogue and the negotiations in order to have that level playing field that needs to accommodate, as we know, the development stage and lots of other matters. But we need to have the courage to look at that situation with this in mind.

FROMAN: Gentleman in the second row here.

Q: I’m Mark Rosen. I was the U.S.—a former U.S. executive director of the IMF. Hi, Christine.

LAGARDE: I remember you.

Q: Absolutely.

LAGARDE: How are you?

Q: Very well. One subject that’s not been discussed today is fiscal deficits. And obviously the U.S. is running a very large fiscal deficit. And Europe seems to be more conservative in that regard. How much is the growth differential that we talked about earlier between the U.S. and Europe due to the vast fiscal deficit that we’re running here? And how do you think about fiscal deficits from the perspective of monetary policy?

LAGARDE: You know, I don’t—I don’t have the exact narrative behind the U.S. fiscal deficit. And I will say, the euro area fiscal deficit, because those are the numbers I know and those are the countries that we follow very carefully. But you’re talking about a one to two. U.S. deficit is north of 7 percent. If you take the euro area, we are at 3.2 percent, as a regional economy which is work in progress. And there are some countries within that euro area which are north of 3 (percent). France is at 5.5 (percent). Some other countries are way below 3 (percent). And that’s how you arrive at this 3.2 (percent), which is the aggregate number of the fiscal deficit of the euro area.

So yes, of course, if there is much more fiscal spending it’s bound to be conducive to some additional growth created by that additional fiscal deficit. Fiscal policies, monetary policies sometimes work hand in hand. And there was a period during COVID where we were very well aligned and where I think our aligned policies, fiscal and monetary, led to the sustainability of our economic orders, avoided the collapse of many companies, kept people on the job or at least with jobs available when the economy return to activity. And that was a way of operating very much together.

Fiscal policy has to also understand what monetary policy is trying to achieve, because we have a mandate. Our mandate is price stability. In this country, it’s dual because of the—of the job objective as well. But our objective in Europe is price stability. If, at the same time, fiscal policy goes, you know, loose and feeds additional spending, heats up demand when I’m trying to tame demand, we are working at counter—I don’t know how you say that in English—at counter purposes.

FROMAN: At cross purposes.

LAGARDE: At cross purposes, not counter purposes. So it’s very important that we appreciate what each other is doing, and that we draw lessons from that. But we have a mandate. I can’t go away from that. That’s in the treaty.

FROMAN: Let’s go to the back there, Christopher Smart.

Q: Thank you. Christopher Smart, Arbroath Group.

I wondered if you could go back to the question on climate change and how you and your ECB colleagues look at that in terms of the ultimate inflationary impact. Some parts of it are disinflationary. Obviously, if energy prices drop the regulation, the carbon taxes are inflationary. How do you balance those forces in your medium-term outlook?

LAGARDE: The short answer to your great question—I don’t know if you’re president as well or not—but is over time. So you have some summarize—overly summarizing, because there are lots of very good and solid work that is done on this topic—it’s predominantly inflationary in the short term and predominantly disinflationary in the medium to longer term. So we try to take that into account. And we are not short sighted in the governing—in the banking—central banking circles. But we have to really focus on the short and medium term, not so much in the long term. But, yeah.

FROMAN: Henrietta Fore, here in the second row.

Q: Thank you. Henrietta Fore. Nice to see you.

LAGARDE: Nice to see you.

Q: You spoke about public-private financing. And I think a lot of us who’ve worked in this are hoping that its time has come. You’d like to see it in climate, in digital, and maybe in the defense area. So could you just sort of outline your vision for how it would be best for us to approach public-private finance? And if it is joined, blended, separated, how we should think about that. Thank you.

LAGARDE: You take me back to my old days, because it’s not an area where we operate, or we act. But if I focus on the climate investments that are needed in order to facilitate and finance the transition, you’re generally talking about investments that are front loaded and return that are, you know, backloaded. And investment that are going to take eight, ten, sometimes more years in order to provide the return that is expected by the investors.

So where I believe, and maybe our colleague from the IFC can help us—she’s not listening. (Laughter.) We’re talking about how private and public investment can sort of work together in order to finance and facilitate the financing of long-term investments. And I was just about to say—but I said that I’m not in my field, it’s your field, more than mine—that because of the length of and the maturity of those projects and the late return on a frontloaded investment, it is important to have the public sector take maybe a disproportionate share of the initial risk in order to encourage private sector to get involved and accept the deferral of time for their return. And minimizing this upfront risk to actually accept the fact that the return will be at the later stage.

FROMAN: There in the back.

LAGARDE: It’s also a fact, by the way, that particular types of—or, particular categories of investment are likely to be interested in those—in those projects. When you look at where the sovereign funds, for instance, are allocating their portfolio, there is a disproportionate amount of their portfolio that is invested in longer-term projects. Some of which in the climate transition category.

Q: Madam Lagarde, Heidi Crebo-Rediker from the Council on Foreign Relations. Very good to see you.

LAGARDE: Good to see you.

Q: So your former institution, the IMF, is doing a lot of work on the macroeconomics of artificial intelligence and impact on productivity and labor markets. I’m wondering if you’ve done work at the ECB, and maybe can give us a view into what you—what you might see in the future.

LAGARDE: Thank you so much for your good question. So on artificial—on productivity, we all try to understand/better appreciate what will be conducive to improvement of those productivity numbers that are so low. And because many of you are interested in those matters, some of you are scholars, I think the Letta report that was just released today and discussed by the European Union leaders will be a source of nuggets focusing on the internal market and how to leverage what is not an internal—you know, an internal market, as described. So on productivity, we try to really get to the bottom of what changes are needed. Mario Draghi, my predecessor at the ECB, is also tasked to produce a report specifically on productivity that should be coming out in September. Again, there will be, I’m sure, some great insight given the number of consultations that he’s had, including in this country, by the way.

On artificial intelligence, we are just at the beginning of understanding. And I think that I’m trying to listen to as many experts as possible. So on day one, it tells you that it’s going to be transformative, it’s going to enhance, is going to protect, it’s going to improve. And then two days later, you see another expert who is going to tell you that this is the end of our economies as we know it, and possibly the end of civilizations, and we’ll all be doomed. I think it’s a time in our life when a massive innovation with potential significant transformative power is accelerating its development, its launch, its applications in a way that I don’t think could have been expected, or that we have seen in the past.

When you look at previous large transformational moment, they never occurred as fast as this one. So what I take from my organization at the European Central Bank is that we’d better be sure as to what we do with artificial intelligence. Who is using it? Do we have a central point—not because I’m a control freak, but simply because the transformative impact of these massive language models, and iteration, and improvement to them can actually affect the way in which we project, we anticipate, and we form views. And I would hate it for us all, because we are adopting the same tools, that we all head in the same wrong direction. So for the moment—I’m not risk averse, but I’m cognizant of the fact that it can create probably as many benefits as it will create risks. And we’d better be aware of the latter as well, because of the magnitude of those risks.

FROMAN: Last question. This gentleman here in the front.

Q: Thank you very much. Shahin Valée from the German Council on Foreign Relations, the daughter organization to the CFR.

LAGARDE: He sends me emails now and again, when he thinks that I’m heading in the right direction. (Laughter.)

FROMAN: Oh, that’s good. Only in the right direction, that’s good.

Q: And I had a question. In 2020, Europe did a very important step by creating the Next Generation EU recovery program, under your watch. This was dubbed in some parts of Europe, by the now chancellor, a Hamiltonian step for Europe. But it was a transitory fund. This fund is supposed to end in 2026. Are you hopeful that this Hamiltonian step will be furthered by future Hamiltonian steps, and that the fiscal integration of Europe will carry on? And I know that the ECB has advocated for that. There has been a few research papers suggesting that public goods should be funded as much as possible at the European level. So are you hopeful that this next mandate that opens after the European election will be the moment where Europe can carry on this Hamiltonian transition?

LAGARDE: Thank you, Shahin. I’m pleased that you bring in Hamilton, because I was going to bring in Kant. (Laughter.) We can maybe marry these two and see what comes out of it. But although NextGen was an 800 billion package, little less than that, one off project, as you know, the European Central Bank advocates for a large fiscal facility at the European level that would be financed collectively by the Europeans. I’m pretty certain, because he’s given a speech yesterday, I think, that Draghi will advocate as well that European bonds be issued in the future in order to service and finance the collective good, which would include defense.

As you know well, because you’re a true European, necessite filhua (ph). And when faced with the urgent need to defend ourselves, to stand for our values, were prepared to transgress rules that seemed untransgressible, or taboos that we thought were going to be the rules of the game forever. We might very well be in that kind of moment.

FROMAN: A transcript and video of this will be on our website soon. President Lagarde, as finance minister, head of the IMF, now at the ECB, you are a true international treasure. It’s an honor to have you here. We hope you’ll consider the Peterson Institute and the Council a home for you here in Washington anytime you come through, and whatever you become the president of. (Laughter, applause.)

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