House of Commons - Treasury

Select Committee on Treasury Eighth Report

II. ECONOMIC AND MONETARY UNION SINCE 1999

The European Central Bank

15. The European Central Bank was established on 1 June 1998, subsuming the role of the four and a half year old European Monetary Institute (EMI). The independence of the ECB is enshrined in the Maastricht Treaty, and Professor Buiter argued that the ECB was more independent than the Bank of England. The ECB has greater operational independence, as there are no reserve powers for monetary policy held by other institutions, and the ECB is also able to define what is meant in the Maastricht Treaty by price stability, which has led the Bank to set its own inflation target, an arrangement which is coming under question.[84] The ECB's primary objective is to "maintain price stability" in the euro-area and, without prejudice to that, to "support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community".[85]

16. Monetary policy decisions are the responsibility of the ECB's Governing Council, which consists of the central bank governors of the eleven euro-area national central banks and six members of the Executive Board of the ECB. The size of the ECB Governing Council was criticised by some witnesses, particularly with a view to the implications of the enlargement of the euro-area.[86] Mr Barty warned that, if the present system continues, whereby every member state's central bank governor sits on the Governing Council, this could make the body "extremely cumbersome indeed" and hinder efficient decision making.[87] Solutions, including a strengthening of the Executive Board's role, a new mechanism to restrict the size of the Governing Council, or a move towards qualified majority decision making, were offered as solutions by some witnesses.[88] In Professor Buiter's view, the problem is accentuated because the ECB takes monetary policy decisions by consensus, rather than by majority voting.[89] This, Mr Barty believed, in part explained why the ECB appeared "confused or lagging behind" in setting the appropriate interest rate.[90] Commissioner Solbes emphasised that the structure of the Governing Council was enshrined in the Maastricht Treaty, and any change would have to be preceded by an amendment to the Treaty.[91] The structure of the ECB Governing Council could be an important issue if and when more countries join Stage Three of EMU; and this is something to which we will return.

Accountability, Transparency and Openness

17. It was important for the ECB to be accountable, transparent and open, according to Professor Buiter, because the institution needed "political legitimacy", which he believed was "necessary for any institution to survive".[92] In this regard, the lack of publication of the minutes of Governing Council meetings could undermine the ECB's position. However, Dr Issing, of the ECB, has pointed out that the Bank holds a monthly press conference, the transcript of which is available from the ECB's website and which he believed comes "very close to representing 'summary minutes'".[93] The CEPS was more critical, arguing that the information revealed in the press conference "falls short" of that contained in minutes produced by other central banks. It added that publication of edited minutes could "contribute to a better understanding of the decision in question, of the true motives behind it and of the main concerns of the ECB about the future", and would be useful if they were produced on a timely basis.[94] Credit Lyonnais UK thought that minutes might not be published in order to preserve the notion that decisions are reached by consensus and the Economic Secretary believed that it would be "difficult" for the ECB to publish voting records.[95] The Centre for Economic Policy Research (CEPR) has argued that the ECB should be collectively accountable because it can set its own targets and to avoid speculation that larger countries dominate ECB decision-making; it therefore advocates that voting records and minutes should remain secret to prevent opening a "can of political worms".[96] The CEPS, however, argued that such openness would "not necessarily lead to nationalist battles in the media" and could improve understanding of the ECB's interest rate policy.[97]

18. The ECB also communicates its economic assessment and strategy through a number of other channels. A monthly report is published which was judged to be of a "generally high quality" according to a recent CEPR paper,[98] but tends to be "backwards looking" according to the CEPS.[99] The Economic Secretary said that the inclusion of inflation forecasts would be welcomed.[100] Professor Wyplosz, of the Graduate Institute of International Studies, Geneva, has argued to the European Parliament that their inclusion could avoid "loss of face" by the ECB if euro-area inflation was to rise temporarily above 2 per cent in the coming months.[101] Professor Thygesen, of Copenhagen Business School, added that the inclusion of inflation forecasts would improve the ex ante accountability of the ECB.[102] In addition to the monthly report, the ECB produces an annual report and members of the Governing Council make frequent, widely-reported speeches. Professor Buiter warned against the danger of "six people singing six slightly different songs" and advocated "either nobody saying anything or everybody talking from the same report card".[103] The ECB considers itself to be accountable to the Committee on Economic and Monetary Affairs of the European Parliament, and, through that, to the public.[104] Dr Gros suggested this process could be improved if observers from national parliaments of the euro-area countries attended the European Parliament discussions to assist scrutiny.[105] Commissioner Solbes believed the ECB could probably improve its accountability and that it had to improve its communications,[106] although he emphasised that the institution had only recently come into being.[107] The Economic Secretary argued that the ECB had progressed "far further" in achieving accountability than many of the national central banks of the euro-area.[108]

Strategy and Objectives

19. The primary objective of monetary policy in the euro-area, stated in the Maastricht Treaty, is price stability.[109] The ECB has defined this as being the "yearonyear increase in the Harmonised Index of Consumer Prices (HICP) for the euro area of below 2%" over the medium term.[110] The CEPS argued that this was vague on two accounts: no lower boundary is stated, and the timeframe referred to in the phrase "medium term" is not determined. Additionally, Mr Forder cautioned that the ECB's "exclusive primary focus on inflation", together with a desire to gain credibility, may lead it to set an "excessively counter-inflationary" monetary policy.[111] However, the ECB has indicated that reflationary action had been and would be taken if the rate of inflation sank too far below the target rate.[112] In order to achieve price stability, the ECB has adopted a "twin pillar" approach: the first pillar refers to broad money supply growth (M3), which has a reference value of 4.5 per cent annual growth; the second pillar consists of a broadlybased assessment of the outlook for price developments and the risks to price stability in the euro area, which Mr Barty described as a "very sensible, pragmatic" approach to monetary policy.[113] Professor Buiter was critical of the need to target money supply, however, believing that the ECB had decided to use this target out of "nostalgia" for the Bundesbank.[114] Instead, he preferred that the ECB should "dethrone the monetary reference value and come out of the closet with their inflation target".[115] While admitting there were some difficulties with the money supply pillar of monetary policy, Commissioner Solbes said that it was "important" and had been used by the ECB in its policy assessment.[116]

Figure 3: ECB key (refinancing) interest rate

20. In order to achieve price stability, the ECB has so far changed the key refinancing interest rate six times as shown by Figure 3. Because of lags in the transmission mechanism, the CEPS argued that it was too early to assess the ECB's monetary policy actions although it thought that "no major monetary policy mistakes have been committed" to date,[117] a view shared by others.[118] Commissioner Solbes was more definite, saying that the ECB had played a "crucial" role in suppressing inflation.[119] The Economic Secretary was of the opinion that the ECB was "clearly meeting its remit".[120]

21. In the first eighteen months of Stage Three of EMU, euro-area inflation remained relatively stable, an achievement for which the ECB can take some credit, though we note rising inflation in both Ireland and Spain. However, there exists a broad consensus that the ECB's communications with the financial markets and the presentation of its policy actions could be improved. While the differences between the structure of the ECB and the Monetary Policy Committee (MPC) of the Bank of England might mean that it is unrealistic to expect the ECB to adopt the same procedures as used by the MPC to enhance transparency, scope exists to improve the presentation of information by the ECB and the transparency of its operations.

84 Qq36-37 Back

85 EC Treaty, Article 105, paragraph 1 (as amended by the Treaty on European Union, Maastricht, 7 Feb 92) (hereafter Maastricht Treaty) Back

86 Q32; also see Q29 and Ev, p11 Back

87 Q29 Back

88 Qq29, 32, 44 Back

89 Q45 Back

90 Q29 Back

91 Q108 Back

92 Q43 Back

93 The Eurosystem: Transparent and Accountable or 'Willem in Euroland', Dr Otmar Issing, Policy Paper No. 2, Centre for Economic Policy Research, Sep 99, p11 Back

94 Quo Vadis Euro?, pp25-6 Back

95 Q457; App 27 Back