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Unelected Power? Independence Monetary Policy

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Unelected Power? Independence Monetary Policy Pro & Contra Pro & Contra 3,5 Min. Central banks Unelected power? Independence Monetary policy In the debate about interest rates, central banks are the key protago- Independence was bestowed upon one central bank after another and it nists. Their decisions have far-reaching consequences, but unlike took only a few years before most major central banks had been given a statute in which independence and the goal of price stability were key democratically elected governments, their power is not vested in them elements. The Maastricht Treaty of 1992/93 was a prime example, while the Bank of England was a relative latecomer in 1997. by way of election. Is this a problem? Sir Paul Tucker, former Deputy The following period of low inflation and robust growth confirmed the empirical findings. Central bank independence was a key precondition Governor of the Bank of England, and Professor Otmar Issing, former for the implementation of the right monetary policy. chief economist and former member of the Executive Board of the ECB, discuss the topic in an exchange of emails. MODERATORS Felix Schütze und Dirk Stauer ILLUSTRATION Merlin Flügel Felix Schütze wrote on 7 February 2019 at 1.47pm Are central banks too independent? Otmar Issing wrote on 11 February 2019 at 8.23pm For a long time, the independence of central banks was not an issue internationally. Germany and the Bundesbank were the exception. In 1948, i.e. before the creation of the Federal Republic of Germany, the Allies – or to be more precise the US – imposed independence upon the newly established Bank deutscher Länder. In 1957 its successor, the Deut- sche Bundesbank, became West Germany`s central bank. And against the will of Chancellor Konrad Adenauer, independence was also enshrined in the Bundesbank Act. The global picture started to change in the wake of the Great Inflation of the 1970s. An initial study by Bade/Parkin, which revealed a negative correlation between the degree of central bank independence and the rate of inflation, was more or less ignored. Over time, however, a growing number of empirical studies supported this finding. By around 1990, this had become the mainstream view. Pro & Contra Pro & Contra Felix Schütze wrote on 12 February 2019 at 10.26am Otmar Issing wrote on 16 February 2019 at 4.13pm Sir Paul Tucker, do you share the same view on the independence of There is hardly any monetary policy decision that is without distributional central banks? In your book Unelected Power you come to another consequences. Many are negligible, some are substantial. The dividing line conclusion. Could you please briefly explain your view? is between those distributional aspects which are an unintended side effect of monetary policy to achieve the goal of the central bank, and those Paul Tucker wrote on 14 February 2019 at 12.13pm which are explicitly directed towards distribution of income and wealth. In Everything Otmar says is true. Also, to be clear, I do think independent this context, one must not forget that maintaining price stability is in the central banks are a good thing, when properly designed and constrained. interests of the weaker members of society who are hardest hit by inflation. Certainly they can help to improve aggregate welfare. Little good comes This distributional aspect is an additional argument for price stability or for from pervasive uncertainty about the future value of money, given its role stipulating low and stable inflation as the primary goal for a central bank. as a unit of account, medium of exchange and store of value. Low and stab- If a central bank uses instruments such as special credit conditions for spe- le inflation doesn’t by any means guarantee the good things in life for citi- cific groups, certain banks, companies or households, the distributional zens, but it is probably a precondition for achieving them. effect is planned by the central bank. Decisions of this kind must remain in What’s more, I think a constitutionalist case can be made for central bank the domain of politics and thus ultimately under the control of the electora- independence given the deep values, in liberal representative democracies, te. Such actions are not compatible with the status of independence. If a regarding the separation of powers. The monetary instrument is always central bank ignores this principle, it undermines support for independence latently a fiscal power: the power to redistribute resources among different and will trigger opposition against it. groups by generating an unexpected burst of inflation that reduces the real value of debt, including government debt, denominated in money, as nearly Dirk Stauer wrote on 18 February 2019 at 7.53am all debt contracts are. In consequence, as I argue in Unelected Power, the Do you agree Paul Tucker? Have central banks fulfilled their very last people who should have day-to-day control over monetary policy role when price stability is achieved – and has this aim really are the elected executive, since it gives them the ability to tax without ha- been the guiding principle for monetary policy in recent years? ving to get formal approval from the elected assembly. We can think of the gold standard as an earlier period’s institution for solving this problem, but Paul Tucker wrote on 19 February 2019 at 8.23am it is a solution that is unlikely to be tolerable for full-franchise democracies I’m with Otmar on most of this. As I explain in Unelected Power, in a cons- given the volatility it entails in economic activity and jobs. titutional democracy where a representative assembly is elected to make So independent central banks are, to use the British expression, a ‘good distributional decisions, an independent agency might take policy actions thing’. But we can’t just leave it there. How, for example, do we prevent that have distributional effects but should not make big distributional them from steering the allocation of credit in the economy, or favouring choices. Where an independent central bank is constrained by its legal some parts of the population over others, or, as the economy’s lender of mandate to pursue a particular course that has distributional effects (for last resort, subsidising fundamentally insolvent banks? And how do we example, when it turns to QE because it is at the zero lower bound for ensure that they keep to monetary affairs rather than veering into broa- interest rates), this can be distinguished from the moral precept that a per- der areas of public policy? There is much left to discuss. son should have regard to the foreseeable (unintended) effects of their actions. I do, however, think that central banks should be active in high- Dirk Stauer wrote on 15 February 2019 at 8.03am lighting distributional effects, because the elected fiscal authorities would Professor Issing, do you think that central banks have paid enough then have the opportunity to offset them. attention to the impact of their policies on issues like the distributi- on of income and wealth? Or have they, on the contrary, been follo- wing a clandestine agenda to stabilise the political order, for ex- ample in Europe? Pro & Contra Pro & Contra I want to add two other qualifications to what Otmar has said: First, even Finally, a word on the ECB. The biggest threat to its independence comes for the pursuit of price stability, I believe a monetary authority’s objective from transgressing its mandate and playing the role of the exclusive savi- should be set (or endorsed) by elected politicians, after a public process, our. Responsibility for guaranteeing the cohesion of the European Mone- rather than by the central bankers alone. That is, in part, because the tary Union must remain in the domain of politics, i.e. in the hands of the choice between, say, an inflation target of 2 per cent or one of 3 per cent governments of member states. entails deciding the rate of the ‘inflation tax’ on non-interest bearing mo- ney. Furthermore, democratic societies should want to separate, as far as Paul Tucker wrote on 21 February 2019 at 4.47pm possible, accountability for the design of a delegated policy regime (with Otmar raises three big points of course. elected politicians) and accountability for its day-to-day stewardship (with On the first, if the objective is not set by politicians, it is set by unelected central bankers). Given the euro area’s incomplete political constitution, technocrats, which is also problematic. Of course I agree that it would not this is not possible for the European Central Bank, which is both more and be good if politicians could chop and change the objective. One option is less than a normal central bank. for it to be set in secondary legislation, so that executive-branch politicians Second, Otmar raises a very important point about operations that could could not change it on a whim. steer the supply of credit. I would not go so far as to say that central banks On the second, I broadly agree with Otmar, but there is an important nuan- should never conduct such operations, but there should be high hurdles. I ce here. Central banks implicitly make credit decisions when they decide elaborate on this in Unelected Power, but they should include regular mo- which instruments to include as eligible collateral in their operations and netary policy instruments being exhausted, and elected government deter- facilities, and which to exclude. The same goes for how they value the mining the allocative parameters, with the central bank basically being left collateral they take, and how much excess collateral they want when len- to decide how much and when.
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