Lorenzo Bini Smaghi: Tommaso Padoa-Schioppa - economist,
policymaker, citizen in search of European unity
Speech by Mr Lorenzo Bini Smaghi, Member of the Executive Board of the European Central
Bank, at a Conference in memory of Tommaso Padoa-Schioppa, European University
Institute, Badia Fiesolana, 28 January 2011.
* * *
Francesco Papadia coordinated the preparation of the speech with contributions by Ignazio Angeloni, Ettore
Dorrucci, Mauro Grande, Gabriel Glöckler, Francesco Mongelli, Francesco Papadia, Pierre Petit, Massimo
Rostagno, Daniela Russo, Pierre van der Haegen, Chiara Zilioli.
It is an honour for me to deliver this speech today in honour and memory of Tommaso
Padoa-Schioppa. This speech has been prepared by a group of colleagues who immediately
volunteered to contribute as soon as they learned that I had been invited to give such a
speech. They were colleagues of Tommaso during his time at the ECB and I am very
porte-parole
pleased to be their today.
Tommaso Padoa-Schioppa had a very rich and complex personality, which I can't sum up in
a few minutes or a few paragraphs. So I'll talk about him as an economist, a policy-maker
and a citizen. The leitmotif in all these areas of Tommaso's life was a Kantian quest for
European unity, a mission to which he dedicated his professional and private life.
The economist
If there is one trait that stands out throughout Tommaso's career, spans all his activities and
engagements, all his speeches and books, it is the energy and determination with which he
pursued his convictions and causes. Once Tommaso started "owning" a new idea, he would
relentlessly seek out all its implications and communicate it to all possible fora and audiences
until the impossible became possible, and the inconceivable started making sense. He
always did so with rigour, but also with a very personal flair; some called it the "TPS style".
Tommaso defined himself as a "practitioner", a policy-maker, but his action was always
deeply and unambiguously grounded in economic thought. At the same time, he shared
Keynes' view that practical men are often slaves of some defunct economist. Even in his
early years as an economist, he identified those risks of enslavement and then sought to free
himself from them by way of his life-long policy engagement: the dichotomy between general
Nationalökonomie
economic equilibrium theory and monetary theory; the dichotomy between
and international economy; and the dichotomy between economic theory and institutions.1
He always aspired to bring these dichotomies to an end, by properly integrating the
monetary, international and institutional dimensions into his assessment of economic policy.
I specifically wish to mention two ideas here, two strands of economic literature: the theory of
optimum currency areas and the impossible trinity proposition. But he was no slave to them;
rather, he mastered and reinterpreted them, and turned them into food for thought.
Mundell's theory of optimum currency areas offered a critique of the overlap between
"money" and "state", a link which, in the early 1960s was still considered as immutable and
irreversible. While a similar critique had led to Friedrich Hayek's idea of the privatisation of
money, supra-nationalisation was Mundell's response. Tommaso's great insight was that this
second avenue would make it possible to improve the Treaty of Rome and to move beyond
it, thus setting the conceptual foundations for the Treaty of Maastricht. Monetary Union was
not seen, however, as an end in itself, but rather as a dynamic process that would prove
sustainable only if policy behaviours and economic configurations in Europe remained
consistent with the prescriptions contained in the theory of optimum currency areas. I will
come back to this issue when discussing Tommaso's legacy.
The impossible trinity proposition, a corollary of the Mundell-Fleming model, stated that a
group of countries cannot simultaneously keep a fixed exchange rate, pursue autonomous
monetary policies, and maintain full capital mobility: in pursuing any two of these goals, the
third one must be necessarily given up. This raised a major intellectual and policy challenge
for European countries trying to strengthen economic cooperation after the Second World
War: it seemed simply inconceivable to jettison any of the three goals.
Tommaso realised that financial repression would have provided only a temporary response
to this question. The accomplishment, in the early 1990s, of the central goal set down in the
Treaty of Rome - a European common market, implying free trade and free capital
movement - called for enhanced, and eventually fixed, exchange rate stability across
member countries. This is because exchange rate volatility, coupled with systematic
devaluation of a group of currencies against other currencies, would have eventually
impaired the very functioning of the common market, a theme to which I will return later.
Indeed, the whole history of European monetary cooperation between the collapse of Bretton
Woods and the early 1990s is marked by attempts to maintain fixed exchange rates. These
attempts were periodically punctuated by major tensions between national currencies (with
consequent clashes between Member States) each time a country was forced (or tempted)
to devalue or even abandon the common fixed exchange rate arrangement. In this context,
the economically most coherent way to reconcile intra-regional free trade and free capital
movement with fixed exchange rates would have been for European countries to adopt a
single monetary policy and therefore a single currency floating against the rest of the world.
This was, in Tommaso's view, the right approach to the solution of the impossible trinity once
the objective of the Single Market had been attained (Figure 1). And indeed Tommaso
preferred to talk about an "inconsistent quartet" (quartetto inconciliabile), which included a
fourth element, free trade, in order to take full account of the European context. In the early
1980s these ideas were still pioneering and visionary, but we all know how influential they
have become in shaping the history of our continent, to the extent that they have transformed
themselves from vision into reality.
Figure 1
Tommaso Padoa-Schioppa's view of the impossible trinity proposition
While Tommaso saw a role for exchange rate adjustments at global level, he was very well
aware that, to avoid imbalances accumulating and crises - even systemic crises - breaking
out, sovereign countries have to pay proper attention to the negative externalities of their
domestic policies and to enhance their cooperation, also as members of stronger
international institutions and fora. Growing economic and financial interdependence led, in
his view, to the identification of public goods not only at country or regional level but also at
world level. A couple of examples would be global financial stability or a multilateral trade
system. As I will further elaborate below, he was no fan of benign neglect and of leaving
exchange rates solely in the hands of the market. Once again, we can see today how
compatible his view of the world is with the current international situation.
Tommaso's call for greater cooperation and supranationality in certain areas of policy-
making was fascinatingly complemented by his full belief in the principle of subsidiarity, also
enshrined in the Maastricht Treaty, according to which each policy should be conducted by
the lowest and least centralised competent authority possible. From this perspective, the
ideas of cooperation and supranationality were understood as economic necessities, not as
abstract political stereotypes.
Not long ago Tommaso became actively involved in an initiative of the Triffin International
Foundation, which is based in Louvain-la-Neuve. Last February he delivered a speech
entitled "The Ghost of Bancor". Bancor was a far more ominous presence than Il
Commendatore Don Pedro who drags Don Giovanni to hell in Mozart's opera of the same
name. His aim in that speech was to revisit the arguments proposed by J.M. Keynes in 1943
for a new international monetary system and eventually a world currency called Bancor.
Tommaso argued that the "Triffin dilemma" is still unresolved: if the main international
standard and reserve currency is a national currency there is an insurmountable
inconsistency between domestic needs (in the short term), and global policy needs (in the
long term). This inconsistency had led, over time, to the collapse of the Bretton Woods
system in the late 1960s and early 1970s. It was not resolved either under the US
dollarbased non-system that took its place: a market-led system without a clear anchor. Over the
last 10-15 years this has been referred to as Bretton Woods II. However, Tommaso noted
that "exchange rates were determined by a bizarre combination of market behaviour and of
policy actions vis-à-vis the dollar. Floating European currencies, including the euro, were at
the mercy of the waves of a market prone to prolonged misalignments. Asian currencies
were largely sheltered from the vagaries of the market and subjected to intense management
by the national authorities". Thus, the illusion of flexible exchange rates was exposed yet
again: incidentally, this is another long-lasting preoccupation of Tommaso (like the
"impossible trinity" I mentioned previously).
Now, coming closer to our current situation and challenges, Tommaso noted that, while a
consensus has emerged about some of the main factors at the roots of the present crisis -
such as the growing and persistent current account imbalances, inadequacies in financial
regulations and supervision, the systemic risk generated by excessive leverage combined
with risky financial products, and so on -, there's a lack of recognition about the fundamental
flaws in the present monetary (non-) arrangements. He quoted Herbert Stein: "That which is
unsustainable comes to an "when an unsustainable
end". Tommaso also warned that
process 'comes to an end', variations in prices and quantities are of a magnitude and drama
incomparably greater than one sees in the healthy conduct of economic life on a daily basis".
The "end", the breaking point, often occurs at an unexpected moment and in an unexpected
way. It's a concept that is reminiscent of the Minsky moment.
"It is easy to argue today that if the monetary regime had sounded the alarm bell and
triggered an adjustment in time, the crisis would have been either averted or, at the very
least, mitigated." Instead, "monetary oversight headquarters' alarm systems and internal
adjustment mechanisms were switched off". To their credit, "the G7 and the international
institutions kept pointing out year after year that the imbalances were unsustainable. Yet they
could do nothing to correct them or to prevent the crisis because they had neither the tools
nor the authority to force the use of domestic measures to address the problem". Moreover,
"there is no way to get round the requirement of a policy framework anchoring the global
standard to an objective of global stability".2
Thus, the ghost of Bancor "has returned to claim his due". At the least, we need a common
exchange rate mechanism "in which every country, bar none, agrees to shoulder its
responsibility and to enter into a commitment with the other countries regarding its currency's
external value; and in which the exchange rate is determined by the interaction between the
market and economic policy". This would provide the foundations for a genuine international
monetary order.
But it will not be easy to achieve this goal, warned Tommaso, as "the elements that are
helping to keep this disorder alive are robust political and economic interests but also, and
above all, the prevailing practical and intellectual inertia. The thoughts that I have expounded
to you here tonight are an invitation to overcome that inertia."
The policy-maker
Tommaso joined the Banca d'Italia in 1968. This was not an obvious decision for someone
with his background: an affluent and cultivated family from the north of Italy. This choice
clearly reflected a wish to serve his country rather than pursue personal enrichment. The
Banca d'Italia, with its tradition of technical expertise and high standards of public service,
was the obvious place to go. Yet in that choice there was not only a drive to do something
but also an urge to understand. That same urge led him to give all those who attended the
conference held to mark his leaving the European Central Bank a small bookmark with a
drawing by Goya of an old man with the motto "Aun aprendo", or "still learning".
The need to combine doing and understanding was strong for a young economist working in
the research department of the Banca d'Italia at the end of the 1960s. The Bretton Woods
system, which had given Italy a solid monetary framework, was starting to show the signs of
wear, while the growth miracle of the Italian economy was approaching its limits. The country
clearly had problems reacting to the changing times with an appropriate economic policy: the
budgetary policy started to show the lack of control that would beset it for decades
afterwards. Monetary policy, which was about to lose its exchange rate anchoring to the
dollar, had difficulties finding an alternative anchor. Tommaso saw in the efforts to establish a
European monetary order not only a chance to make decisive progress towards the objective
of a unified Europe but also an opportunity to help Italy get out of its difficulties in managing
the economy in a sound and stability-oriented manner. Hence his support for Italy's
membership of the European Monetary System (EMS), even against those who argued, with
some reason, that Italy would have difficulty in complying with the exchange rate constraints
of the EMS. He was, of course, aware of this, yet he did not want such an endeavour to start
without Italian participation. Moreover, he believed that the so-called "monetarist" view -
according to which taking decisions on the exchange rate, and a fortiori moving towards a
common currency would have effects on the conduct of monetary policy and on the economy
- reflected the reality better than the so-called "economist" view, according to which
exchange rate constraints and, again a fortiori, a common currency can only be the climax of
a perfect convergence of monetary policy and economic conditions.
These same ideas informed his action when he served at the European Commission from
1979 to 1983, the early years of the European Monetary System. There again he was
confronted with an apparent trade-off between national and European forces and between
monetary stability and a European monetary project. All his efforts, again as an economist
and as a policy-maker, were devoted to solving these tensions and taking them in a single
direction - towards a European monetary endeavour that would bring monetary stability.
Tommaso followed the same course when he returned to the Banca d'Italia in 1984, even if
he had then to deal more directly with the continuing difficulty of Italian governance to deliver
sound and stability-oriented macro policies, notwithstanding the efforts of the Banca d'Italia,
where he was a member of the Board.
While actively aiming to bring monetary stability to Italy and to move towards monetary
unification in Europe, Tommaso started working in payment systems - an apparently
obscure area of work. Before he took on responsibilities in this area at the Banca d'Italia,
payment systems were not considered an independent (and even less core) function of
central banks. The activities carried out by payment system departments today largely did
not exist at that time and to some extent were done by IT departments and back offices.
Tommaso provided the conceptual and economic rationale for a greater involvement by
central banks in this area. A smooth functioning of payment systems is essential to ensure
that money performs one of its key functions, being a "means of exchange". Ensuring an
adequate means of exchange (i.e. confidence in the currency and its adequate and effective
circulation) is one reason why central banks were originally established. Central bank money
is indeed universally recognised as the safest mean of exchange and therefore as the
ultimate means to discharge financial obligations. Smooth functioning of payment systems is
also crucial for the effective conduct of monetary policy and financial stability.
Between 1985 and 1991, Tommaso promoted and developed in Italy all the components of
an efficient and sound payment system. The action plans were described in two publications
issued by the Banca d'Italia. Led by Tommaso, the Banca d'Italia played a central role as an
operator of settlement facilities, regulator and catalyst.
As an operator, the Banca d'Italia launched the Italian RTGS system (Birel) for interbank
money market uncollateralised transactions and the settlement system for Italian government
bonds. As a catalyst, the Banca d'Italia ensured cooperation within the banking industry that
led to the creation of the other necessary infrastructure for large-value, retail and securities
transactions. As a regulator, the Bank created the conditions for "oversight" of the
infrastructure. And indeed Tommaso was the first person to use the word "oversight" to
describe the function to be conducted for payment systems, as opposed to "(banking)
supervision".
These activities were launched by Tommaso before the Banca d'Italia was assigned formal
specific statutory competence in this field. "The function begets the organ and leads to the
establishment of the legal basis" as he used to say. With hindsight, it's evident that what
Tommaso did in Italy laid the foundations for the development of an analogous process at
European level.
His view was that each integrated currency area should have its own "domestic"
infrastructure. Tommaso introduced a definition of "domestic" that went beyond national
borders and covered the whole euro area.
As at the Banca d'Italia, almost everything Tommaso did at the European Central Bank in the
field of payment systems was innovative. Indeed he developed a paradigm of model for the
operational features that each integrated monetary area should have, and continuously and
consistently pursued their implementation.
Tommaso once again had a chance to be involved more actively in policy-making at
European level when he acted as secretary for the Delors Committee when it prepared the
blueprint for the single currency in 1987-89. Tommaso was not a member of the Committee
and, as such, he was not supposed to intervene during the meetings, but his personal
relations with Jacques Delors and with Carlo Azeglio Ciampi, then Governor of the Banca
d'Italia and a member of the Committee, as well as his role as "rapporteur" allowed him to
greatly influence the deliberations. That was an excellent opportunity to combine his two
aspirations: a stable currency but also one that would powerfully contribute to European
Union.
In the 1989-91 negotiations that led to the Maastricht Treaty, Tommaso fought hard to
maintain the momentum towards monetary union which had been established by the Delors
Committee. Indeed, he feared that the decision to establish a temporary institution, the
European Monetary Institute, instead of the European Central Bank, would be a critical
mistake, also considering that in the meantime in a number of countries, again including Italy,
policies were not sufficiently stability-oriented.
We know the story since then: the project of monetary unification came close to failure with
the repeated exchange rate crises in the first half of the 1990s. But Europe's efforts in its
historical endeavour eventually succeeded. In the 1993-97 preparatory work for the launch
of the euro, Tommaso had yet another chance to show his unique ability to build on the one
hand, a strong conceptual, analytical and policy framework (the "vision") and, on the other
hand, to implement a concrete set of measures and actions to turn the vision into reality.
In the area of financial stability, Tommaso elaborated and worked towards the realisation of
three fundamental ideas.
First, he provided a far-sighted yet, in the end, realistic contribution to the design of the
architecture for financial supervision in Europe. He was convinced that in a single market,
and even more so within a single currency area, the supervisory framework had to be as
convergent as possible, entailing a transfer of supervisory responsibilities from national to EU
level. Indeed, he was convinced that the public good of financial stability also needed to be
provided at EU level, and that would have necessitated the creation of an EU supervisory
framework. At Maastricht, the Member States could not agree on this. Tommaso considered
this a mistake - and the EU had to learn its lesson from this omission the hard way, during
the financial crisis.
Tommaso regarded the convergence of supervisory rules and of supervisory practices
through enhanced cross-border cooperation as intermediate steps towards the final
objective. Notably, he was the first person to coin the term "EU supervisory rulebook" and,
moreover, he was the founder of FESCO, the forum for supervisory cooperation in the
securities field. In his view, cross-border supervisory cooperation should be so strong and
effective that the collective behaviour of supervisors would appear as a single one. All these
ideas started to take shape with the establishment of the Lamfalussy Committees (CEBS,
CESR and CEIOPS), whose main purpose was to enhance supervisory convergence and
cooperation. But his ideas have only been fully realised recently, with the setting-up of three
new European Supervisory Authorities (ESAs) as part of the European System of Financial
Supervision. The ESAs have the main task of pursuing the EU supervisory rulebook and
strong coordination powers over national supervisors.
The second fundamental idea Tommaso worked on was to define the role of central banks in
financial stability. He saw this role as being clearly distinct from the one that central banks
may have in prudential supervision since it entails monitoring, controlling and managing the
risks to the financial system as a whole (what is now commonly referred to as systemic risk)
instead of managing the risks incurred by individual financial institutions, a task performed by
supervisors. In attempting to design a fully fledged framework for this function, he recognised
the need to identify specific policy instruments which could address systemic risk, including
the interplay with the instruments used for monetary policy purposes. In doing so, he
essentially anticipated the issues which eventually came to the fore in the wide policy debate
stemming from the financial crisis under the heading of macro-prudential supervision. This
debate eventually led to the establishment in Europe of the European Systemic Risk Board.
He contributed to the development of the financial stability function at the European Central
Bank, mainly by pushing for the publication of the ECB's Financial Stability Review, which
provides a euro area-wide perspective of risks to financial stability.
His third fundamental idea was to defend, constantly, the role of central banks in prudential
supervision. While he recognised that it was probably impossible to define an optimal model
for the organisation of financial supervision, he firmly believed in the synergy between the
central banking and supervisory functions, and supported a close relationship between the
two. He expressed this position in all discussions on reforms of supervisory structures at
national level. It is telling that one of the main lessons of the financial crisis is that, where a
clear separation between central bank and supervisory functions exists, the trend is to shift
the responsibility for prudential supervision to the central bank.
In the area of international relations, Tommaso was convinced that, as the central bank of an
economy roughly the same size as that of the United States, the Eurosystem had to
gradually develop its international role and policy: it owed this to its "domestic constituency"
as well as to the global community, in which monetary unification in Europe could play an
important role by enhancing global policy cooperation. In this area too, Tommaso was a
fervent advocate of the national central banks of the euro pooling their forces, acting as a
system and playing a role consistent with the institutional mission and interests of the
Eurosystem. His belief in international cooperation was founded on the conviction that there
are, on the global agenda, many economic issues - including trade, finance, global
imbalances, energy and the emergence of new global and regional players. Their scale and
complexity call for policy efforts that go beyond national borders and make cooperation at
global level desirable and feasible. In a series of lectures he gave here at the European
University Institute shortly before the end of his term at the European Central Bank, he
argued that the long-term solution, what he had earlier called the "royal way", would be to
adapt institutions to today's policy needs, to reform them with a view to enhancing their
effectiveness and representation, extending in many cases some of their operational and
decision-making practices. Tommaso belongs to that group of personalities who played a
decisive role in shaping international cooperation. He contributed to formal and informal
group discussions at global level, but also worked on a bilateral basis with countries,
institutions, and people from Africa, Asia, Latin America and from the Mediterranean
countries.
One of his initiatives was to set up the high-level Eurosystem Seminars, regularly bringing
together the members of the Governing Council with governors from selected central banks,
for example, those from EU candidate countries, or from countries around the
Mediterranean, or from countries in Africa or the Middle East that were considering a
monetary union for their own region, or even from Latin American countries. It was
something unique to have - regularly sitting around the same table - the Governor of the
Central Bank of Israel and the Governor of the Palestinian Monetary Authority sharing views,
in an open and candid manner, on the challenges that they were facing, together with their
European counterparts.
Tommaso's intellectual curiosity was not constrained by borders, on the contrary. He
constantly wanted to grasp the essence of what was at stake for central banks worldwide
and to share his vision of a "textbook central bank", while at the same time taking into
account the particular circumstances and institutional structures of a given central bank.
The citizen
As I said in my introduction, Tommaso was more than an economist and a policy-maker. He
had a sense of history, a determination to bring the civilization of Europe to a higher level. He
was proud of Europe but also recognised its fragility, and was acutely aware of the
continent's rivalries, divisions and conflicts over the centuries.
The relationships between the nations of Europe changed immensely during the almost 40
years of Tommaso's career as a central banker. He was a central banker by profession, and
an advocate of a united Europe by conviction. As a child he had seen cities bombed and
soldiers marching through the streets outside his house. As a teenager he listened to his
history teacher explaining that the day before (25 March 1957) an important treaty had been
signed in Rome. Six European countries had just committed themselves to establishing the
free movement of goods, persons, services and capital. To achieve this goal they were
prepared to renounce part of their sovereignty. The project was economic in content and
political in nature. A united Europe then became the strongest of Tommaso's personal
convictions.
Tommaso was convinced that, after the four freedoms were established, after common
economic legislation was adopted, after the Single Market and a single institution to enforce
common competition rules were set up, the next step was a monetary union. He saw the
creation of the euro as a key integrative step in the field of monetary policy and was very
aware of the ECB's responsibility to make it a success and a stepping stone for further
integration. But monetary union, he realised, was a project fraught not only with political
difficulties but also with deep conceptual problems. The economist and the policy-maker in
him helped the citizen to find and contribute solutions to these conceptual problems.
In the second half of the 20th century, the debate over monetary policy resulted in a
consensus: the central bank must be both independent and accountable. An important part
of Tommaso's work, before and at the European Central Bank, was to help establish both
independence and accountability as part of a central bank's profile. The two form a critical
pair, he thought, with the latter naturally complementing the former.
The independence of the Eurosystem is a means to an end. It is instrumental in achieving
the objective of price stability assigned to the central bank of the euro by the Treaty, which
has deliberately established both the primacy of price stability and the principle of
independence of the central bank. Independence would be much harder to justify if monetary
policy had been given the responsibility to bring two objectives into balance, say price
stability and high employment. So, independence is essential if the Eurosystem is to carry
out its mission successfully. It protects the Eurosystem from short-term political
considerations. But it does not mean the absence of democratic control. In a democracy,
independence and accountability are two sides of the same coin.
Accountability means that the central bank is subject to the scrutiny of the elected
representatives of the people. In Tommaso's analysis this is an essential part of our political
order. The European Central Bank has been assigned a specific mission and given the
independence to effectively pursue it, so the ECB has to be held accountable for fulfilling it.
The ECB must explain and justify its decisions. It is accountable to the people of Europe. In
the political order of the EU this means being accountable to the European Parliament, the
only body that derives its legitimacy directly from the people.
The ideas Tommaso developed as economist emerged powerfully in his function as a
leading thinker at the ECB. Deeply convinced that, especially in all European matters,
"Nothing is possible without humans, but nothing is lasting without institutions" (as Jean
Monnet said), his concern was to shape the ECB as an independent institution that is
nevertheless - and necessarily - embedded within the overall institutional context of the EU.
This shaping was a dynamic process, because the EU as a "polity in the making" is
constantly evolving. He also devoted particular attention to making the ECB's actions and
policies understandable for the people of Europe, to whom the ECB is ultimately
accountable.
When Monetary Union was established he pushed for a "customer-friendly" name to
embrace what he called "the central bank of the euro" as well as the ECB and the national
central banks of the euro area. The Treaty was difficult to read, even for lawyers: so the first
Bulletin of the ECB introduced the term "Eurosystem", which has been used since by the
national central banks implementing monetary policy. Today the word "Eurosystem" is well
known and is included in the Lisbon Treaty.
When the opportunity came to change the Treaty to make it closer to the citizens, it was
proposed to make the ECB one of the EU institutions, recognising its role in the further
integration of Europe. Traditional central bankers were sceptical, fearing that a closer link to
the other, more "political" Union institutions would undermine the independence of the
European Central Bank. Tommaso was at the centre of this debate; he managed to strike a
balance between, on the one hand, maintaining and even reinforcing the European Central
Bank's independence and keeping its special features and, on the other hand, reinforcing the
role that the ECB, as a newly recognised institution, more visible to the people, could play
jointly with the other institutions to foster European unification. Notably, the Lisbon Treaty
explicitly mentions the financial independence of the ECB and that it has a legal personality
separate from that of the