Central bank independence
revisited
Keynote address by Yves Mersch, Member of the
Executive Board of the ECB, at the "Symposium on
Building the Financial System of the 21st Century: An
Agenda for Europe and the United States", Frankfurt am
Main, 30 March 2017
Good morning, ladies and gentlemen. It is a pleasure to speak
to you today on the subject of central bank independence.
Independence has been granted to central banks in order to
shield them from short-term political influence when fulfilling
their mandate of ensuring price stability. It is largely
undisputed that an independent central bank with a clearly
defined mandate is better able to keep inflation lower and
more stable. In the post financial crisis era, however, central
banks in many countries have been entrusted with powers and
responsibilities going beyond their traditional monetary policy
mandates. Central banks have, for example, started acting in
the areas of macro- and microprudential supervision and crisis
management. Also, while remaining within their monetary
policy mandate, some central banks adopted unconventional
monetary policy measures. Critical voices claim that central
banks have been over-stretching their mandates, blurring or
even crossing the line into fiscal and economic policy. Central
banks are accused of influencing the distribution of income and
wealth and subsidising the financial sector at the expense of
society as a whole - policy areas which traditionally require
more democratic legitimacy and control. This has re-opened
the debate surrounding the legitimacy, and the precise scope,
of central bank independence.
Today I will focus on the independence conferred on the
European Central Bank, on the reasons for it, and on the
extent to which this independence can apply to the different
ECB tasks and responsibilities. The main point I will make is
that, notwithstanding the changes in the ECB's role in the
aftermath of the financial crisis, its independence remains
unchanged and continues to protect its core monetary policy
function. I will refer to the relevant case law of the Court of
Justice of the European Union (CJEU), which has adjudicated
on some controversial issues related to the ECB's mandate and
the scope of its independence. Independence being an
exception in a democracy, it has to be seen narrowly and
cannot be applied to an ever-widening area of responsibilities
without due adjustments in accountability for the new tasks.
Central bank independence
From an economic perspective, the support for central bank
independence rests, in general, on three time-honoured
insights. The core of these insights has remained intact when
compared with the pre-crisis consensus, but I will touch upon
some challenges as I go along.
First, there is sound economic evidence supporting the
argument that an environment characterised by price stability
is conducive to economic growth and high levels of
employment which, in turn, positively contribute to the welfare
of citizens. This insight can be explained by reference to a
broad range of complementary factors which make inflation
"costly". I would mention four such factors in this respect.
First, there is the tendency for individuals to seek to
economise on money holdings if inflation rises, referred to
informally as "shoe leather costs". Second, there is the
suboptimal allocation of goods and services, reflecting the fact
that the variability in relative prices tends to increase average
inflation, induced by typically disperse menu costs to change
individual prices. Third, there are distortions in tax systems
which are typically not indexed to inflation. And, fourth, there
are costs arising from a de-anchoring of inflation expectations,
which reflects the fact that inflation is typically more difficult to
predict in high inflation environments.
The second insight is that in advanced economies central bank
independence and inflation traditionally show a significant
negative correlation. Regressions in support of this finding
measure central bank independence by various indices which
capture, inter alia, appointment and dismissal procedures of
central bank board members, the degree to which the central
bank is mandated to achieve price stability as its primary
objective, and the extent to which the government is able to
influence, or even veto, decisions of the central bank. This
empirical relationship did not receive much attention before
the early 1990s.[1]
Historically, it needs to be viewed primarily against an
understanding of how central banks in different institutional
settings "managed to opt out of the great inflation after the
break down of Bretton Woods", to paraphrase a title used by
Otmar Issing and co-authors in their account of German
monetary policy in these years.[2]
To maintain the claim of a negative relationship between
inflation and central bank independence in the more recent
period (in which central banks in advanced economies have
not been struggling with high inflation, but rather with inflation
being too low for too long) requires a more nuanced approach,
as some commentators have stressed.[3]
According to them, a consistently negative relationship
between inflation and independence across time and countries
remains intact if one considers a narrower measure of
independence which captures the autonomy of the central
bank in its selection and use of monetary instruments, in line
with the core monetary policy function of the central bank
(instrument independence). By contrast, the significance of
broader measures of independence has been reduced in a
period in which central banks have had to take on new tasks.
At a conceptual level, the benefits arising from central bank
independence in terms of price stability have been strongly
echoed in the literature on rules versus discretion.[4]
This literature points out that decision-makers who are subject
to political election cycles tend to act in a more short-sighted
manner when exercising their mandate. This short-termism
creates an inflation bias, making it difficult to credibly promise
actions which will validate low inflation expectations over time.
To overcome this time-inconsistency problem, monetary policy
needs to be delegated to an institution which is sufficiently
detached from these cycles. However, independence does not
mean isolation, which is why it is important for a dialogue
between the central bank and the democratically elected
institutions, as well as directly with the public at large, to be
maintained.
There is a third insight, which is related to the second. For
independence to contribute to achieving a desired inflation
target, it needs to be accompanied by a limited and clearly
defined mandate for the central bank. As I will explain in a
greater detail when talking about accountability, a clear and
limited mandate is necessary for the parliament and the public
to be able to monitor and evaluate the performance of the
central bank. But, apart from that, a clear and limited mandate
also reflects the insight, dating back to Tinbergen[5]
, that institutions must not be overburdened with multiple
goals without having the appropriate instruments to achieve
them.
These economic insights contributed to the rationale for
providing the ECB with a high level of independence, in view of
the primary objective assigned to the ECB of maintaining price
stability. This rationale has also been recognised by the CJEU,
according to which this independence is not an end in itself but
serves to shield the decision-making process of the ECB from
short-term political pressures in order to enable it effectively
to pursue the aim of price stability.[6]
The underpinning arguments resulted in the principle of central
bank independence being enshrined in primary legislation,
thereby establishing a link between monetary policy and the
citizens of the European Union.
Let me finally add that there is a euro area specific argument
in support of central bank independence which makes the euro
area special within the group of advanced economies. The euro
area is not a nation state. Its institutional framework is shaped
by the fact that a single European monetary policy co-exists
with national or shared sovereignty in various policy domains.
Fiscal and labour market policies are particularly relevant in
this regard. This raises complex political economy questions,
not foreseen in the earlier literature, about how the interests
of supranational policies and non-harmonised national policies
can be aligned. In such an environment, it is important to have
an independent institution which provides the various national
decision-makers within the monetary union with a stable
nominal anchor enshrined in Union primary law.[7]
From a legal perspective, the Treaty on the Functioning of the
European Union established the European System of Central
Banks (ESCB), consisting of the ECB and the national central
banks (NCBs) of all EU Member States, and assigned to the
ESCB the primary objective of maintaining price stability. To
pursue that objective, the Treaty assigned to the Eurosystem,
which is composed of the ECB and the NCBs of Member States
that have adopted the euro, the core task of defining and
implementing monetary policy, together with a number of core
central banking tasks in the areas of foreign exchange
operations, foreign reserves management, the smooth
operation of payment systems, authorising the issuance of
euro banknotes, and the collection of the statistical information
necessary to undertake these tasks.[8]
With respect to the prudential supervision of credit institutions
and the stability of the financial system, the ESCB is mandated
to contribute to the smooth conduct of policies pursued by the
competent authorities.[9] In addition, Article 127(6) of the
Treaty permits the Council to confer specific tasks upon the
ECB concerning the prudential supervision of credit institutions
and other financial institutions with the exception of insurance
undertakings. That provision was activated recently through
secondary legislation establishing the Single Supervisory
Mechanism (SSM),[10] which confers tasks on the ECB relating
to the prudential supervision of credit institutions.
Article 130 of the Treaty sets out the requirements of central
bank independence. While Article 130 also applies to NCBs, my
focus here today will be on the ECB. Article 130 prohibits the
ECB and the members of its decision-making bodies from
seeking or taking instructions from Union institutions or
bodies, from any government of a Member State or from any
other body when exercising the powers and carrying out the
tasks and duties conferred upon them by the Treaties. In
addition, under Article 130, Union institutions, bodies, offices
or agencies, and the governments of the Member States
undertake to respect this principle, and not to seek to
influence the members of the ECB's decision-making bodies in
the performance of their tasks.[11]
This is a very strong concept of independence from the
perspective of its content (double prohibition), its legislative
source (Treaty level, meaning that it is very difficult to
modify), and the judicial protection granted in the event of
violation (individual governors have locus standi against their
Member States).
The concept of central bank independence has four features
institutional, instrument, personal and financial
independence.[12]
In view of the broadened scope of the tasks performed by
central banks, they have to be viewed through a functional
lens in order to be in line with the rationale of the Treaty
provisions on independence.
Institutional independence refers to the prohibition of the
influence of third parties on the structure, functioning,
decision-making, and exercise of powers of the central bank.
Institutional independence implies that the central bank has a
"broad discretion"[13]
when making policy decisions. As a consequence, the ECB
independently defines its monetary policy strategy and
quantifies the price stability objective.
Instrument independence refers to the central bank's ability to
determine its policy tools in pursuit of price stability without
interference. It means that the central bank has discretion to
use and clarify its monetary policy instruments foreseen in
primary law such as outright purchases, the collateral
framework and its counterparties.
Personal independence safeguards the capacity of the
members of the ECB's decision-making bodies to take
decisions without external influence. This translates into
requirements for appointment and protection from dismissal,
as well as the length of mandates that should be longer than
the electoral cycle. The members of the Executive Board have
the requirements spelled out in the Treaty; their tenure is 8
years and their dismissal on grounds of either inability or
serious misconduct is pronounced by the CJEU. The national
laws for appointing governors, who in their personal capacity
are members of the Governing Council, are to be compatible
with the Statute of the ESCB. The reasons for dismissal are the
same as for the members of the Executive Board and subject
to the CJEU's scrutiny as soon as there is knowledge of
material evidence of such a procedure. Their terms of office
must be 5 years at a minimum.
Financial independence is so important that it is explicitly listed
in Article 282(3) of the Treaty, which provides that the ECB is
independent with regard to the management of its finances,
meaning budgetary autonomy and ensuring that the ECB has
sufficient capital, staff and income to perform independently
the tasks conferred on it by the Treaty and the Statute of the
ESCB.[14]
In addition, Article 14.4 of the Statute of the ESCB provides
the Governing Council with a veto power to object to national
functions/actions of NCBs that interfere with the objectives and
tasks of the ESCB, thus further safeguarding, among other
things, central bank financial independence. The NCBs cannot
assume tasks that would endanger their ability, from a
financial perspective, to carry out ESCB-related tasks.
Regarding the nature and the scope of the independence
granted to the ECB, it is worth emphasising the CJEU's
understanding that the broad concept of independence that the
ECB enjoys, and which Article 130 of the Treaty is intended to
protect its monetary function.
Some scholars and one national court[15]
have been even stricter in their interpretation, arguing that the
independence of central banks is an exception to the principle
of democratic legitimacy. This exception allows an independent
institution outside the normal process of democratic and
political accountability to be entrusted with authority for
monetary policy only under the condition that it has a clearly
defined mandate allowing the public to hold it accountable for
the performance of the technical tasks assigned to it by the
legislator. The clearer and narrower the mandate of a central
bank is, the easier it is for the citizens to monitor its
performance.[16] In the case of the ECB's monetary policy, the
Treaty sets out, in very clear terms, that the primary objective
of the ECB is to maintain price stability. Also, the permissible
rate of inflation is quantified by the ECB through the
Harmonised Index of Consumer Prices (HICP), which is easy to
understand and is updated at frequent intervals.[17]
On the other hand, with the conferral of new functions and
tasks on the ECB, multiple objectives may arise, which may
obstruct the accountability process and, ultimately,
compromise the democratic legitimacy of central bank
independence. Since the independence granted to a central
bank is an exception to the general rule that public
administration should be subject to scrutiny and oversight by
democratically elected institutions, the scope of a central
bank's independence should be interpreted narrowly and may
not be automatically extended to other policy areas. As a
consequence, institutional independence should be subject to a
functional analysis of the need for those new tasks to benefit
from the same broad independence framework.
If central bank independence is to be modelled in a functional
manner, then its pendant - the central bank's accountability
and disclosure requirements - also need to reflect this
modelling.
Accountability and transparency
The principles of accountability and transparency are essential
for independent central banks. Accountability is a political duty
and sine qua non for the democratic legitimacy of an
independent central bank that is answerable for the exercise of
its decision-making powers.[18]
Accountability refers to the ex post explanation and
justification of autonomous decision-making.[19]
Transparency is aimed at increasing the effectiveness of a
central bank's policies by communicating them in real time, or
even in advance, thus facilitating the public's understanding of
the central bank's objectives, behaviour and decisions.[20]
The channels through which the ECB is held accountable for
the performance of its monetary policy function are laid down
at constitutional level, i.e. in the Treaty. The Treaty was
concluded by the national governments and ratified by the
national parliaments of the EU Member States, and in some
cases endorsed by popular referenda, in accordance with
national constitutional requirements. This gives the ECB, as an
independent institution accountable to the EU institutions as
well as to the public at large, a profound degree of democratic
legitimacy. In addition, there are various "ex post"
instruments, provided for by the Treaty, fostering dialogue and
communication with the Union institutions.[21]
In addition to the requirements imposed on the ECB by the
Treaty, the ECB is committed to ensuring greater levels of
transparency and accountability by, for example, holding press
conferences immediately following Governing Council
monetary policy meetings, making the monetary policy
accounts available four weeks after each monetary policy
meeting and publishing the Economic Bulletin, articles,
interviews and speeches online. The principles of transparency
and openness are also implemented by the ECB regime for
public access to documents.[22]
Developments following the financial
crisis and their impact on the concept of
central bank independence
I will now share with you some reflections on developments
following the financial crisis and their impact on central bank
independence. As I have already explained, the Eurosystem's
most prominent task is to define and implement the monetary
policy of the Union. Following the financial and sovereign debt
crises, new tasks were conferred upon the ECB and, as a
result, the ECB started engaging in broader policy fields. In
particular, the ECB became the direct prudential supervisor of
significant banks in Member States participating in the SSM,
received some macroprudential tools in addition to its existing
microprudential tasks, engaged in crisis management
activities, and liaised with the Commission in connection with
assistance programmes for certain Member States financed via
the European Stability Mechanism (ESM) and the European
Financial Stability Facility (EFSF).
In the light of these developments, it is important to consider
the extent to which the very high level of independence
granted to the ECB by Article 130 of the Treaty applies to each
of its new tasks and responsibilities.
Is the principle of independence under
Article 130 of the Treaty applicable to
the ECB in its role as a banking
supervisor?
Regarding the extent to which the principle of independence
under the Treaty applies to the ECB in its role as a prudential
supervisor of credit institutions, both the wording of Article
130 of the Treaty and the jurisprudence of the CJEU make it
clear that the independence the ECB enjoys is limited to the
performance of the tasks conferred on the Eurosystem and the
ECB by the Treaty and the Statute of the ESCB in pursuit of
the objective of price stability and, without prejudice to that
objective, to supporting the general economic policies in the
Union. Tasks and functions conferred on the ECB by secondary
legislation do not, therefore, fall within the scope of the
principle of independence in Article 130 of the Treaty, and the
four features of central bank independence applicable to the
ECB as a monetary authority are not applicable per se.
The ECB's tasks in the field of microprudential supervision are
conferred neither by the Treaty nor by the Statute of the
ESCB, but rather by means of secondary legislation, the SSM
Regulation.[23]
Therefore, the principle of independence, as enshrined in
Article 130 of the Treaty, cannot be properly applied to the
exercise by the ECB of its supervisory functions. In addition,
the ECB's supervisory tasks cannot be considered to be
inextricably linked to or indispensable to the pursuit of the
price stability mandate although an efficient transmission
mechanism and counterparty framework are supported by a
sound and solvent banking system.
This legal interpretation of the precise scope of the principle of
independence under Article 130 of the Treaty is further
supported by additional purposive arguments which I would
also like to present to you.
First, unlike the monetary policy task, which involves a wide
discretion for which the Eurosystem has fully autonomous
regulatory and decision-making powers,[24]
the ECB's discretion in carrying out its supervisory tasks is
confined by the decisions taken by the respective European
and national legislators or regulators. In particular, in its
supervisory activities, the ECB must apply all relevant Union
law and, where the Union law is in the form of directives, the
national legislation transposing those directives.[25] The ECB is
also subject to binding regulatory and implementing technical
standards developed by the European Banking Authority (EBA)
and adopted by the Commission[26] and to the EBA's powers
to resolve disputes between competent authorities in a legally
binding manner.[27] While the ECB is consulted on draft
legislation within its fields of competence, the ECB is not a
supervisory policymaker and its supervisory tasks, although
entailing discretionary judgement, focus on the
implementation and enforcement of supervisory policies and
rules established by democratically accountable institutions.
Even though operational independence is of importance to the
manner in which these tasks are carried out, the fact that a
supervisor is required to act in response to decisions made by,
or in cooperation with, policymakers and other supervisors
means that the high level of protection from external influence
that is guaranteed under Article 130 of the Treaty is not
appropriate for these tasks. The provisions on independence in
the SSM Regulation are similar to Article 130 of the Treaty, but
serve a different purpose. The personal and instrument
independence are also different. As for personal independence
it should be also noted that the members of the Supervisory
Board, apart from that of the Chair,[28] Vice Chair[29] and the
ECB representatives[30] , are not protected under the SSM
Regulation against arbitrary dismissal. There is also no
legislatively protected minimum term of office for them.
Second, the ECB's accountability for its supervisory tasks is
different from and more enhanced than that for its monetary
policy task owing to the potential impact on taxpayers of the
manner in which microprudential supervision is conducted.
Throughout the financial crisis, taxpayers had to bail out banks
supervised at national level. Even though, under the new EU
resolution regime, the cost of bank failures is intended to be
borne by bank shareholders and creditors, there is still a
residual scope for public financial support, as we are currently
witnessing.
A further argument for a functional interpretation of the
principle of independence is the principle of separation
between monetary policy and banking supervision under the
SSM Regulation.[31]
Moreover, while the accountability obligations for monetary
policy tasks are laid down in primary legislation,[32] the ECB's
accountability obligations for banking supervision tasks are
subject to a specific regime set out in the SSM Regulation[33]
and further detailed in an interinstitutional agreement between
the European Parliament and the ECB[34] and a memorandum
of understanding between the Council of the EU and the
ECB.[35] To the extent that accountability and independence
are seen as counterparts, the different accountability
frameworks might have implications for the implementation of
the principle of independence.
An example in this regard is the restricted mandate of the
European Court of Auditors (ECA) to audit the "operational
efficiency of the management of the
ECB". The rationale for
this limitation on the ECA's audit, which is laid down in Article
27.2 of the Statute of the ESCB, is in the independence of the
ECB vis-à-vis other Union institutions and governments of the
Member States by virtue of Article 130 of the Treaty. The SSM
Regulation makes a direct reference to the restricted mandate
of the ECA under Article 27.2 of the Statute of the ESCB when
defining the ECA's competences to audit the supervisory
activities of the ECB. However, as the ECB as a supervisor
enjoys a different kind of independence than the ECB as
monetary authority, there is, in practice, a differentiated
application of the concept of the "audit of the operational
efficiency of the management of the
ECB", meaning that it is
possible for the ECB to have different obligations vis-à-vis ECA.
Third, the extension of the high standard of independence
under Article 130 of the Treaty to the supervisory function of
the ECB is hard to reconcile with the principle of democratic
legitimacy. As I explained earlier, entrusting the ECB with the
authority to make monetary policy decisions is not considered
to give rise to legitimacy concerns because the ECB's very
clearly defined mandate in this area allows the public to hold it
accountable for the performance of its tasks. In other words,
the clear Treaty mandate of the ECB to maintain price stability,
which has been quantified since the very beginning,[36]
provides the citizens of the Union with a benchmark against
which to judge whether this mandate has been fulfilled. Unlike
the objective of the monetary policy, however, the objectives
of the ECB's supervisory tasks, as defined in the SSM
Regulation, are diverse and multifaceted; and they are also not
quantifiable.[37] For this reason, it is necessary for the
tradeoffs and judgement calls concerning these objectives to be
subject to a greater degree of scrutiny by democratically
elected institutions, or sometimes to a degree of control by
democratically elected institutions. In view of the multiple
objectives of banking supervision that at times might even
conflict with the ECB's primary objective of maintaining price
stability, it would not be justifiable to extend the independence
under Article 130 of the Treaty to the ECB as supervisor.
Let me emphasise at this point that I do not question the
necessity for banking or financial supervisors to be
operationally independent from undue political, commercial
banking or other third party influences. There are valid
arguments for granting operational and financial independence
to supervisors and, in fact, it has been accepted that
operational independence is one of the core principles for
effective banking supervision. The specific question that I am
exploring is whether the highest possible level of independence
granted to a central bank by virtue of Article 130 of the Treaty
for the pursuit of the primary objective of price stability may
be extended to the supervisory function of the ECB.
Operational independence of the ECB as
a supervisor
When the Council conferred supervisory tasks on the ECB, it
also set out the principles and conditions governing the
exercise of those powers, including the level of independence
for the ECB. Instead of including a direct cross-reference to
Article 130 of the Treaty,[38]
as was the case in relation to the scope of the ECA's mandate
vis-à-vis the ECB, the independence of the ECB in an SSM
context is set out expressly in Article 19 of the SSM
Regulation.
The wording of Article 19 of the SSM Regulation is similar to,
but does not replicate, Article 130 of the Treaty. It stipulates
that when "carrying out the tasks conferred on it by this
Regulation, the ECB and the national competent authorities
acting within the SSM shall act independently. The members of
the Supervisory Board and the steering committee shall act
independently and objectively in the interest of the Union as a
whole and shall neither seek nor take instructions from the
institutions or bodies of the Union, from any government of a
Member State or from any other public or private body."
Article 19(2) adds that "the institutions, bodies, offices and
agencies of the Union and the governments of the Member
States and any other bodies shall respect that independence."
The following question arises: what is the difference between
the ECB's independence as a central bank and its
independence as a bank supervisor?[39]
The first notable difference, as already mentioned, is that
Article 130 of the Treaty is part of the Union's primary or
constitutional law, while Article 19 of the SSM Regulation is
secondary law. This gives the provision shielding the central
bank from influence when performing its monetary policy task
in Article 130 of the Treaty a constitutional character and takes
it outside the scope of the Union legislator's legislative powers.
By contrast, the provisions shielding the bank supervisor from
influence are contained in secondary law, which is of a lower
rank than primary law and easier to amend.
Second, Article 19 of the SSM Regulation should be read in the
light of recital 75 of the SSM Regulation, which refers to the
importance of the prevention of private industry interference in
the supervisory field, in addition to "undue political influence".
Such private industry interference is less pronounced in the
area of monetary policy. In addition, only "undue" political
influence is prohibited. Recital 75 also explicitly refers to the
notion of the "operational independence" of supervisors.
In addition, Article 19 of the SSM Regulation does not contain
an explicit prohibition on the ECB and the national competent
authorities (NCAs) accepting instructions, unlike Article 130 of
the Treaty with respect to the ECB and the NCBs. In the SSM
context, Article 19 of the SSM Regulation only imposes such a
prohibition on the members of the Supervisory Board and its
steering committee. The drafting of Article 19 of the SSM
Regulation reflects the legal situation in some Member States,
where the NCAs are bound by the instructions of the respective
ministries.[40]
Article 19 of the SSM Regulation requires only that the ECB
and the NCAs "act independently" while carrying out their
supervisory tasks under the SSM Regulation.[41]
Third, the principle of personal independence does not apply to
the members of the ECB's Supervisory Board (apart from the
specific rules applicable to the Chair[42]
, Vice Chair[43] and the ECB representatives[44] ). There is
neither a legislatively protected minimum term of office for
them, nor a limitation of the grounds for dismissal by the
appointing authority.
It should be noted that this does not affect the personal
independence of the members of the ECB's decision-making
bodies, who remain protected from arbitrary dismissal under
Articles 11.4 and 14.2 of the Statute of the ESCB, irrespective
of whether they exercise new tasks and functions that are
conferred on the ECB. The Statute of the ESCB sets out
explicitly the two grounds for dismissal and any interpretation
leading to a different outcome would be contrary to the letter
and the spirit of the Treaty. In practice, a dismissal from office
would apply to all functions performed under that office and
cannot be restricted only to the monetary policy and core
central banking functions. Nothing would prevent a national
legislator, however, from severing a national governor from
national responsibilities in the prudential field.
Fourth, the principle of financial independence applies to the
ECB as a bank supervisor in order to have sufficient financial
[45]
and human resources to perform its supervisory tasks.
To conclude on this point, when performing its supervisory
tasks, the ECB is not shielded from external influences with the
same level of independence as it is in its monetary policy
functi