Very interesting analysis, much food for thought. As a former central banker I have some caveats based on an important distinction between ends and means.
- The ends of monetary management is price-stability. One of the means to ensure proper monetary management is central bank independence, particularly with floating exchange rates and fiat currency, codified in law and with (among other things), a clear mandate.
- Sometimes this is not enough. Central banks, being a part of the executive branch broadly understood (not judiciary or legislative for sure), are at risk of being subject to the executive power that holds transient power and thus could potentially be forced to issue money to finance deficits. Hence another of the codified means is the legal prohibition to finance the deficit (the no-bailout clause for instance).
- This is at the root of the inflation problem historically (e.g. Latin America), and therefore CBI is designed as a separation-within-the-separation of powers: keep an arms length distance between the central bank and the fiscal authority. Independence therefore is not to be understood as full separation from the state, and proper accountability to state entities needs to be assured.
- The restrictions on monetary financing of fiscal policy are not therefore, ends, but rather means. They are not, in my view, moral, ethical or political precepts, but rather involve a way to deal with the practical issue that inflation is a monetary phenomenon. Hence, if inflation control has been achieved (the ends), and inflation is by necessity a monetary problem, one can deduce that the central bank (independent or not) did its job.
- The ECB is moreover rather special. On the one hand, the narrow mandate for the ECB was a natural evolution of the literature on CBI. But due to the nature of the European Monetary Union, there is no single Euro-wide fiscal power that could in theory use the ECB to finance its deficit by executive order. So preventing inflation from monetization of deficits was more assured in the Eurozone than elsewhere to start with, even in the absence of a specific mandate, in my view.
- On the other hand, financial stability or similar aspects are not part of the mandate, but it would be natural to presume that survival of the monetary union "whatever it takes" is a core objective, as long as it does not end in an inflation spiral (which would collapse the monetary union as well).
- In that dimension, the ECB´s performance has been stellar. The monetary union was preserved, and inflation has been around 2%, which is the objective it has. Key ends, associated with appropriate monetary management as well as institutional survival, have been achieved.
- Although better accountability is always good, I would question how better accountability can be implemented in the case of the ECB, given the granularity and atomization of political/fiscal power across the Monetary Union. What is left are the courts, and in the specific cases raised by Hanno, they did their job, whether we like the results or not.
Central bank independence is not enough to ensure a narrow interpretation of the mandate. To ensure this, central banks need to be held accountable.
But how?
In a democracy with checks and balances, the judicial branch seems like an obvious choice. You also write: “The BVerG is, on paper, the strongest available institutional check on the ECB.” But why isn’t it the European court of justice?
Interesting analysis, thanks. I think it highlights the limitations of pursuing any goal other than stability of a currency union when you’re the central bank of a currency union. Not sure it goes through to the case of other central banks that have their own currency and a floating exchange rate.
Very interesting analysis, much food for thought. As a former central banker I have some caveats based on an important distinction between ends and means.
- The ends of monetary management is price-stability. One of the means to ensure proper monetary management is central bank independence, particularly with floating exchange rates and fiat currency, codified in law and with (among other things), a clear mandate.
- Sometimes this is not enough. Central banks, being a part of the executive branch broadly understood (not judiciary or legislative for sure), are at risk of being subject to the executive power that holds transient power and thus could potentially be forced to issue money to finance deficits. Hence another of the codified means is the legal prohibition to finance the deficit (the no-bailout clause for instance).
- This is at the root of the inflation problem historically (e.g. Latin America), and therefore CBI is designed as a separation-within-the-separation of powers: keep an arms length distance between the central bank and the fiscal authority. Independence therefore is not to be understood as full separation from the state, and proper accountability to state entities needs to be assured.
- The restrictions on monetary financing of fiscal policy are not therefore, ends, but rather means. They are not, in my view, moral, ethical or political precepts, but rather involve a way to deal with the practical issue that inflation is a monetary phenomenon. Hence, if inflation control has been achieved (the ends), and inflation is by necessity a monetary problem, one can deduce that the central bank (independent or not) did its job.
- The ECB is moreover rather special. On the one hand, the narrow mandate for the ECB was a natural evolution of the literature on CBI. But due to the nature of the European Monetary Union, there is no single Euro-wide fiscal power that could in theory use the ECB to finance its deficit by executive order. So preventing inflation from monetization of deficits was more assured in the Eurozone than elsewhere to start with, even in the absence of a specific mandate, in my view.
- On the other hand, financial stability or similar aspects are not part of the mandate, but it would be natural to presume that survival of the monetary union "whatever it takes" is a core objective, as long as it does not end in an inflation spiral (which would collapse the monetary union as well).
- In that dimension, the ECB´s performance has been stellar. The monetary union was preserved, and inflation has been around 2%, which is the objective it has. Key ends, associated with appropriate monetary management as well as institutional survival, have been achieved.
- Although better accountability is always good, I would question how better accountability can be implemented in the case of the ECB, given the granularity and atomization of political/fiscal power across the Monetary Union. What is left are the courts, and in the specific cases raised by Hanno, they did their job, whether we like the results or not.
Thanks.
Very interesting post as always!
Trying to rephrase one of your core arguments:
Central bank independence is not enough to ensure a narrow interpretation of the mandate. To ensure this, central banks need to be held accountable.
But how?
In a democracy with checks and balances, the judicial branch seems like an obvious choice. You also write: “The BVerG is, on paper, the strongest available institutional check on the ECB.” But why isn’t it the European court of justice?
Interesting analysis, thanks. I think it highlights the limitations of pursuing any goal other than stability of a currency union when you’re the central bank of a currency union. Not sure it goes through to the case of other central banks that have their own currency and a floating exchange rate.
Great insights! Can I try to summarize: whatever the ECB gives to some countries, it effectively — but implicitly — takes from others?
Excellent analysis.
And your conclusion is spot-on: independence without accountability only invites (undemocratic) mission creep.
For all the noise surrounding the Fed right now, accountability is present in a way that the ECB has been able to steer clear of at least since 2012.