Blog post

The Winner's Curse

Publishing date
14 October 2009

Bruegel Director Jean Pisani-Ferry raises questions about the mandate, accountability and independence of central banks in the aftermath of the financial crisis. He highlights the proposed creation of the European Systemic Risk Board (ESRB), which will probably be a de facto subsidiary of the European Central Bank, and explains that the ESRB will likely face problems when it must make decisions in which governments previously had sole authority.

Central banks emerged from the crisis as winners. They provided liquidity when in demand. They were inventive when needed. They exhibited boldness in front of storms. They proved capable of fast decisions. Especially the ECB defied all predictions and showed up to the task of managing a crisis (the Fed also, but it is in a somewhat less glorious situation as it is accused of having been both the arsonist and the fireman).
It is only natural, therefore, that central banks are in the process of being given additional responsibilities for financial stability. The question, however, is at what cost to the clarity of their mandate, their accountability and, possibly even, their independence.
The question starts with monetary policy. Over the last three decades (essentially since 1979, the year when Paul Volcker broke with the eclectic discretion that characterised the Fed’s policy and when France and other countries anchored their currencies on the Deutsche Mark), monetary policy philosophy has constantly evolved in the direction of specialisation, predictability and transparency – three mutually consistent features of modern central banking, which in turn facilitated the political accountability of the monetary institution. The end point of this evolution was the single-objective, inflation-targeting monetary institution of the early 2000s, the one Mervyn King once ironically yet proudly described as ‘boring’.
But the increased weight of the financial stability objective alongside the price stability objective is suddenly making things complex again. True, unlike the ECB some central banks had it as an objective since inception, not least the Fed. But even in the latter case it did not have a major bearing on policy, as indicated by the Greenspan doctrine that central banks should not prick bubbles. The future will be different. Instead of the one-instrument, one-objective framework they were converging on, central banks will have to pursue two objectives with one instrument, which is bound to bring back the very concept – trade-offs – they had succeeded of getting rid of. Having to choose between two objectives also makes accountability more difficult, because you need to explain why precedence has been given to one of the goals at the expense of the other one. There will be no shortage of Jesuitical arguments to explain that financial stability is nothing else than price stability envisaged over a little longer horizon, but facts are likely to prove stubborn things.
Not entirely by coincidence, a new instrument is in the making under the name of macroprudential supervision. Following the De Larosière report, the EU has decided to create a new European Systemic Risk Board (ESRB) with the task of contributing to financial stability. According to the proposal put forward by the Commission at end-September it will be chaired by a central banker (in all likelihood the president of the ECB) and the majority of its members with voting rights will be central bankers. Its secretariat will be provided by the ECB. So the ESRB won’t legally be a central bank but it will be a central bank’s subsidiary and its public face will be undistinguishable from that of the ECB.
The ESRB will be deprived of decision-making powers and policy instruments, but it will issue warnings and recommendations to supervisors and governments in the EU, and monitor their implementation. So for example if it assesses that housing credit developments are unhealthy, it will recommend a tightening of credit standards or of mortgage regulations.
There is a debate about whether this approach will prove effective. But let us assume it will. This will be because the ESRB will have led governments or supervisors to take decisions in fields where they have competence, such as supervision, regulation, or even perhaps taxation. This will go beyond the mere opinion central banks give on all sort of policy issues, from fiscal policy to structural reform, because here the ESRB will, in the name of its very mandate, request other policy bodies to ‘comply or explain’. In the process the strict separation between the domain of the central bank and that of government bodies is likely to be challenged – and perhaps with it the intellectual and institutional edifice that has been painfully built over the last three decades.
To start with, there will be disagreements over the assessment of the situation and the risks involved. In the mid-2000s, there were such disagreements between the EU and Spain about the risks involved in Spanish housing developments. The reason why the Spanish authorities were inclined to a rather lenient view of the situation was that virtually anyone in Spain who had some money was buying and selling real estate. The EU actually had the power to issue a recommendation – but failed to do it. The ESRB will be confronted with similar problems.
Second, there will also be questions about who is to blame for failure if there is one, in other words the risk of blurred accountability. If this happens it will be uncomfortable for anyone, but first and foremost for the central bank as it will de facto have to share responsibility with government for policy mistakes.
Finally, the ECB has this far been extremely cautious to avoid being involved in policy decisions affecting one particular country or a subset of countries, as opposed to the euro area as a whole. But the ESRB will have explicit powers to addressing recommendations to a particular country – if only because threats to financial stability can be country-specific. So another Chinese wall is likely to fall in the process.
To give additional competencies and increasingly shared responsibilities to the central bank may be the best thing to do in order to preserve financial stability. This is no reason to ignore that such a move will bring it to the very terrain monetary authorities had gradually exited from over the last decades. So far, there has been surprisingly little discussion about the political and institutional implications of such an about-face.

This op-ed was published in Eurointelligence on 16th October 2009.

About the authors

  • Jean Pisani-Ferry

    Jean Pisani-Ferry is a Senior Fellow at Bruegel, the European think tank, and a Non-Resident Senior Fellow at the Peterson Institute (Washington DC). He is also a professor of economics with Sciences Po (Paris).

    He sits on the supervisory board of the French Caisse des Dépôts and serves as non-executive chair of I4CE, the French institute for climate economics.

    Pisani-Ferry served from 2013 to 2016 as Commissioner-General of France Stratégie, the ideas lab of the French government. In 2017, he contributed to Emmanuel Macron’s presidential bid as the Director of programme and ideas of his campaign. He was from 2005 to 2013 the Founding Director of Bruegel, the Brussels-based economic think tank that he had contributed to create. Beforehand, he was Executive President of the French PM’s Council of Economic Analysis (2001-2002), Senior Economic Adviser to the French Minister of Finance (1997-2000), and Director of CEPII, the French institute for international economics (1992-1997).

    Pisani-Ferry has taught at University Paris-Dauphine, École Polytechnique, École Centrale and the Free University of Brussels. His publications include numerous books and articles on economic policy and European policy issues. He has also been an active contributor to public debates with regular columns in Le Monde and for Project Syndicate.

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