Independence Lost (Sylvester Eijffinger, Edin Mujagic, Project-Syndicate, 6 marzo 2013)
Every major economic crisis has its victims. Some bounce back, while others experience long-lasting, even permanent, damage. When it comes to the global crisis that erupted in 2008, output growth has been a resilient victim. Central bank independence, by contrast, has been undermined severely – and possibly forever.
In the 1970’s, the Western world was confronted with a unique phenomenon: simultaneous recession and rising inflation. Germany’s success in maintaining low inflation in this environment was explained by the fact that the Bundesbank was de facto independent from the German government. This triggered a global movement, in which country after country adopted legislation to increase the independence of its monetary authority. Soon, inflation began to fall.
With rapid economic growth leading to lower-than-expected outlays and higher-than-expected income for Western governments, maintaining central banks’ independence from political pressure was easy. Governments did not need their central banks to print money.
But, in a less favorable economic climate, printing money becomes a handy alternative to difficult decisions and painful adjustments, such as tax hikes and deep cuts in government spending. Indeed, since the onset of the ongoing financial and sovereign-debt crisis, advanced-country governments and central banks have allowed fiscal policy to prevail over monetary policy.
The Bank of Japan is the most recent example of a major central bank bowing to its government’s wishes, which Prime Minister Shinzo Abe bluntly declared should be accommodated. The BOJ’s recent decision to buy an unlimited number of government bonds to meet its new inflation target of 2% has effectively ended the guise of autonomy.
Likewise, the Bank of England is effectively buying almost every new British government bond that is issued, even with annual inflation above the legally established ceiling of 3%. Although British inflation has been higher than 4% in recent years, even rising above 5%, the Bank of England has continued to loosen monetary policy. Meanwhile, the US Federal Reserve is now buying more than 90% of newly issued US Treasury securities.
All three countries are violating the most important central-banking commandment: Thou shalt not engage in monetary financing of government spending. But this is not surprising, given that these countries’ central banks have never actually been independent.
For example, Article 4 of the Law on the Bank of Japan states that the bank “shall…always maintain close contact with the government and exchange views sufficiently, so that its currency and monetary control and the basic stance of the government’s economic policy shall be mutually compatible.” This means that the BOJ can pretend to be independent, but only for as long as the government permits.
Similarly, Article 19 of the Law on the Bank of England permits the Treasury to direct the Bank’s monetary policy, if it is “satisfied that the directions are required in the public interest and by extreme economic circumstances.” A favorite phrase among politicians, “public interest” is sufficiently vague to allow substantial room for maneuver, as is “extreme economic circumstances.” Indeed, these criteria have resulted in the Bank of England accommodating the UK Treasury’s wishes fully.
In the US, the Federal Reserve Act can be amended by a simple majority in Congress, a fact of which the Fed is acutely aware. Moreover, in the last few years, the system of checks and balances in place within the Fed’s Board of Governors has been severely hampered by the fact that, in his first term, President Barack Obama had the rare opportunity to appoint or re-appoint almost all of its members, enabling him to replace hawkish governors with doves.
By law, the European Central Bank is among the world’s most independent. And the cumbersome and difficult process of amending the ECB’s statutes – which, as part of the Treaty on the European Union, cannot be changed without agreement of all European Union member states – protects it from political pressure. But, rather than taking advantage of this, the ECB has accommodated European politicians, behaving less and less independently since the beginning of the crisis.
In southern Europe, central banks have traditionally been part of the government, which means that representatives from most EU member states consider central-bank subjugation natural. Given that they all have an equal say in ECB decisions – and that, since 2008, majority voting has replaced unanimity in ECB decision-making – the ECB has begun to resemble the Banca d’Italia far more than the fiercely independent Bundesbank. The ECB’s policy of purchasing large quantities of government bonds from ailing eurozone countries reflects this change, prompting two experienced German bankers, Axel Weber and Jürgen Stark, to resign from their respective posts as Bundesbank President and the ECB’s chief economist.
Independent central banks are becoming a relic of the past. The fact that inflation has increased in many Western countries, despite the severe recessions of recent years, could mean that financial markets have begun to account for this fundamental shift. If central bank independence is the key to maintaining long-term price stability, the era of low inflation may well be over.