DETERMINANTS OF THE MONEY SUPPLY, AND THE TOOLS OF CENTRAL BANKS (1)

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Lecture 7

• DETERMINANTS OF THE MONEY SUPPLY, AND THE TOOLS
  OF CENTRAL BANKS (1)

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European System of Central Banks
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European System of Central Banks

• The European System of Central Banks (ESCB)
  consists of the European Central Bank (ECB) and
  the national central banks of the EU Member
  States.
• The activities of the ESCB are carried out in
  accordance with the Treaty establishing the
  European Community (Treaty) and the Statute of
  the European System of Central Banks and of the
  European Central Bank (ESCB/ECB Statute).

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Governance of the ECB

• The ESCB is governed by the decision-making
  bodies of the ECB.
• The Governing Council of the ECB is responsible
  for the formulation of monetary policy,
• the Executive Board is empowered to implement
  monetary policy.
• The ECB has recourse to the national central
  banks to carry out her operations.
• The ESCB policy operations are executed on
  uniform terms and conditions in all Member States.

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ESCB Basic tasks

• The basic tasks by the Eurosystem are
• to define and implement the monetary policy of
  the euro area
• to conduct foreign exchange operations
• to hold and manage the official foreign reserves
  of the Member States and
• to promote the smooth operation of payment
  systems.
• In addition, the Eurosystem contributes to the
  prudential supervision of credit institutions and
  the stability of the financial system.

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The US Federal Reserve System

• The formal structure of the Federal Reserve
  System is characterized by
• a regional decentralization (there are 12 Federal
  Reserve Banks)
• each Federal Reserve Bank is quasi-public (partly
  held by government, partly by commercial banks in
  the district).
• all national banks chartered by the Office of the
  Comptroller of the Currency have to be members of
  the Federal Reserve System.

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The Federal Reserve Bank of New York

• The Federal Reserve Bank of New York has a
  special role (through its involvement in the bond
  and foreign exchange markets and through the
  presence of large commercial banks).
• The FRBNY is the only US Reserve Bank to be a
  member of the Bank for International Settlements
  (BIS).
• Its president assumes a chief role in the system.

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Governance of the Federal Reserve System

• The Fed is headed by a seven-member Board of
  Governors, with its influential Chairman (Alan
  Greespan), headquartered in Washington D.C.
• The Board of Governors is actively involved in
  monetary policy making.
• All governors are (voting) members of the Federal
  Open Market Committee (FOMC).
• In addition there are 12 (of whom 5 voting)
  members from district banks in the FOMC.

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Should central banks be independent?

• A cornerstone of the monetary constitution of the
  euro area is the independence of the ECB and of
  the NCBs (Article 108).
• There are fears that a dependent ECB
• could succumb to financing large budget deficits
  of the government.
• could be asked to monetize too much debt, which
  would entails an inflationary bias.
• Central banking also requires expertise and
  should not be left to politicians.

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Should central banks be independent?

• Counterarguments
• It is undemocratic to have monetary policy
  controlled by a non-elected elite group.
• There is no accountability in central banking,
  which is a precondition for, and core element of,
  democratic legitimacy.
• There is need to coordinate monetary and fiscal
  policies.
• The ECB could pursue a policy of self-interest.

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Principal-agent problem

• There is a typical principal-agent relation
  between the Legislature and an independent
  institution bestowed with a public function.
• In line with the requirements of Article 113 of
  the Treaty, the President of the ECB presents the
  ECBs Annual Report to the European Parliament at
  its plenary session.
• This is followed by the adoption of a European
  Parliament resolution, which provides a
  comprehensive ex post assessment of the ECBs
  activities and policy conduct.
• The Chairman of the Fed reports to the US
  Congress.

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The objectives of the ESCB

• The primary objective of the ESCB, as defined in
  Article 105 of the Treaty, is to maintain price
  stability.
• Without prejudice to the primary objective, the
  ESCB has to support the general economic policies
  in the EU.
• In pursuing its objectives, the ESCB has to act
  in accordance with the principle of an open
  market economy with free competition, favoring an
  efficient allocation of resources.

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The mandates of central banks
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Reporting requirements of central banks