Memorandum by Mr Lorenzo Codogno,
Managing Director, Co-Head of European Economics, Bank of America
1. THE STRUCTURE
What would be the effect of the recent decision
of the European Council to amend the voting modalities of the
What would be the optimal solution to the problems
posed to the workings of the Governing Council by enlargement?
Is there a conflict between national interests and European interests?
If so, how might these be reduced? What should be the relative
size of the Executive Board in relation to the Governing Council?
Should there be an independent monetary policy committee, along
the lines of the MPC of the Bank of England?
What should be the roles of the European Council,
the European Parliament and national parliaments in appointing
the President and the other Members of the Executive Board?
1.1 The EU Council of Heads of State or
Government recently decided to modify the voting modalities in
the Governing Council of the ECB on the basis of a recommendation
from the ECB. The reform was aimed at ensuring that the Governing
Council will be able to take decisions in a timely and efficient
manner in an enlarged euro area.
1.2 The new voting modalities are likely
to accommodate the impact of EMU enlargement on the ECB decision-making
body, but it will not solve the fundamental problems of the current
setting. Indeed, it is likely to increase the complexities of
the decision-making process. The only benefit of the new arrangement
is to provide a politically acceptable way to accommodate EMU
1.3 The ECB cannot be blamed for the poor
proposal as it acted within the limits imposed by the "enabling
clause" as amended by the Treaty of Nice. The "enabling
clause" in Art 10.6 of the ECB Statute introduced by the
Treaty of Nice restricted the options of the ECB in proposing
changes to just changes in voting modalities as laid down in Art.
10.2. More fundamental changes, such as the changes in the composition
of the Governing Council or a different distribution of tasks
between the Executive Board and the Governing Council, are not
covered by this clause. Moreover, the ECB added self-imposed fundamental
criteria: "one member, one vote", "ad personam
participation", "representativeness", "automaticity",
and "transparency". The reform of the voting system
responds to the same logic that informed the original setting
of the ECB, that is adequate representation of euro area countries,
and the principle of `representativeness' can be justified more
by political than economic considerations. As a result, the new
arrangement increases the number of Governing Council members:
a larger number of voting members, and an even larger number of
governors participating to Governing Council meetings.
1.4 Voting members will become 21 on a rotating
basis with enlargement from the current 18. In addition to 6 Executive
Board members, voting rights will eventually be allocated among
three groups of national governors that will be formed by using
a composite ranking indicator based on the relative size of the
economy and the financial sector of the Member State. A rotation
system would represent an "equitable, efficient and acceptable
way in which to allocate voting rights among governors within
the Governing Council" (ECB Monthly Bulletin, May
2003). A large number of voting members and a mushrooming number
of non-voting members, who will have no voting rights but will
participate fully in the discussion, is likely to reduce the "intimacy"
of the decision-making process and may lead to an inability to
react promptly to changes in the economic environment. Moreover,
reaching consensus in a large decision-making body may become
difficult, and this could also reduce the ability to react promptly
to economic developments. Although the ECB cannot be blamed for
having made major policy mistakes since its inception, it has
been argued-probably with some reasonthat the ECB has been
slow to react to changes in the economic outlook. The new voting
provisions are likely to make the risk of a slow reaction even
1.5 As a possible enhancement, the EU Commission
has already suggested lowering the number of governors with voting
rights. The EU Parliament flatly rejected the ECB proposal observing
that the rotation model has been widely criticised for being excessively
complex. The European Parliament called for the adoption of a
solution "which would distinguish between operational decisions,
to be taken by an enlarged Executive Board of nine Members, adequately
representing the euro area economy, and strategic and general
monetary policy decisions to be taken by the Governing Council
acting on a double majority, based on the population of the Member
States, the total size of the economy and the relative size within
it of the financial service sector". The EU Parliament proposal
introduces an awkward double-key majority for the Governing Council.
Still, this proposal appears more sensible than that of the ECB,
as it would allow efficient policy decision making for the Executive
Board. However, the EU Parliament thinks that only "once
we have gained sufficient experience with the enlarged Euro area
and achieved progress in the real convergence of its economy,
we should aim for a durable solution with a genuinely European
approach". Over the "short and even medium term"
the EU Parliament would leave operational monetary policy decisions
to the Governing Council, with a voting mechanism that is as awkward
as the one proposed by the ECB.
1.6 There is clearly a trade-off between
the political need to maintain country representation and the
even more understandable and justified economic need to have the
best designed decision-making body. Even in the US, the Federal
Open Market Committee uses a similar rotating voting system, although
it consists of only 12 voting members versus 21 at the ECB post
enlargement. The seven members of the Federal Reserve Board always
vote on the Committee, together with five of the 12 Federal Reserve
Bank presidents on rotating one year terms. All members participate
to the meetings and in the discussions, and contribute to the
overall assessment of the economy and policy option, but the total
number is only 19. At the Bank of England, there are only nine
Monetary Policy Committee members. At the ECB the participation
of all governors at the meetings could potentially make for a
very large number of participants as new countries join the EMU.
Enlargement of EMU by 15 new countries would result in 33 central
bankers sitting at Governing Council meetings.
1.7 What is the rationale for country representation?
The US example may be inspiring. In making appointments, the President
is directed by law to select a "fair representation of the
financial, agricultural, industrial, and commercial interests
and geographical divisions of the country." These aspects
of selection are intended to ensure representation of regional
interests and the interests of various sectors of the public.
The ruling of the EU Council and the carefully balanced representation
among Member States would imply that there may indeed be a conflict
between national interests and European interests to the point
of justifying such a bickering for the voting system. If Governing
Council members take or are influenced by national views on policy
matters, there may be a conflict of interests, and therefore it
would be justified to introduce a careful balance in order to
properly represent regional interests. However, Governing Council
Members are supposed to have a euro area perspective in their
deliberations. The principle of so-called "ad personam participation"
should be there to guarantee that members participate in a personal
and independent capacity and make their own personal judgement
without being influenced by national interests. The principle
of "one member, one vote" and that of "ad personam
participation" should guarantee that the "force of arguments
count and not the country of origin, or whether that country is
large or small" (ECB Bulletin, May 2003). However,
there are clearly risks, also in light of some aberrations that
still exist in the mandate to national governors. In practice,
country governors are elected as representatives of each national
central bank, and most of the times they are politically elected
and sometimes not fully independent. Although the Maastricht Treaty
severed incestuous links between central banks and governments,
de-facto some of these links still exist. As an example, the Governor
of the Bank of Italy has a life appointment, but the government
retains the right to withdraw its mandate. This leaves the central
bank governor potentially subject to political pressures, which
may then easily echo within the ECB Governing Council. Finally,
a "Council of European Central Bank Governors" could
be set up with an advisory role to exchange views and to monitor
developments at regional level. This arrangement would probably
close the perceived democracy-gap of not having a representative
from each country presenting regional issues to the decision-making
body of the ECB. Moreover, it would enable central bank governors
of this enlarged Council to communicate ECB policy in a credible
way to market participants and to the wider public.
1.8 Governing Council members should be
protected from any kind of indirect political interference and
sit on the board exclusively as professional economists to whom
a clear mandate to maintain price stability has been given. This
would probably still imply a political appointment, but then any
link should be cut and the mandate should be longer than the usual
political term. It must be recognised that as an institution the
ECB reflects the tensions and the political difficulties of European
integration. In fact, while it would be desirable to immediately
shift to a new system, political consideration may suggest a smooth
and gradual process. There are a number of possible intermediate
solutions that can be chosen, ranging from a small, fully independent
Governing Council to the current patchy arrangement.
1.9 Governing Council members should not
be appointed by national parliaments or governments in order to
avoid appointments becoming part of the usual political wrangling.
To maintain the technical nature of the appointment, it would
probably be better if a special commission of the European Parliament
or the EU Commission proposes candidates, with the selection made
purely on technical grounds. Candidates should be selected among
central bankers, "outsiders", and even among non-EMU
citizens in line with what the Bank of England is already doing.
Then, candidates should have the blessing of the European Parliament
and the European Council.
1.10 The work of central bankers is mainly
a technical job, which should aim at achieving price stability.
Other issues may easily interfere with this primary objective
and result in a sub-optimal policy. It is hoped that within the
framework of the Convention on the future of Europe and the forthcoming
Intergovernmental Conference (IGC), more comprehensive changes
will be adopted to streamline the decision-making process. The
IGC could design a "road map" to move gradually away
from the current country-based representation in favour of appointments
based exclusively on professional grounds. One way to incrementally
move in this direction would be to decrease the number of national
governors with voting rights, thereby reducing the weight of non-executive
members in the decision making-process. In addition, the appointment
of Executive Board members from outside of the "central banks"
club' should be encouraged. The setting of the Bank of England's
Monetary Policy Committee should be taken as an example. It maintains
a majority of votes for "insiders" and at the same time
opens the Monetary Policy Committee to "outsiders" who
add different perspectives to the policy debate.
Should the bank's communication strategy and its
implementation be changed?
What has been the effect of the press conferences
held immediately after the meetings of the Governing council?
Should the ECB publish unattributed minutes of
meetings of the Governing Council? Should the ECB publish the
results of votes of the Governing Council? Would identifying individual
positions cause problems in a multi-national organisation? How
might any such problem be overcome?
What is the experience of interactions between
the ECB and the NCB's? Other than the Council meetings, what structures
are in place to facilitate communication between the staff of
the ECB and the NCBs?
2.1 In May, the ECB concluded the review
of its monetary policy strategy and introduced some changes in
its communication strategy. These changes, although not comprehensive
and far-reaching, addressed some of the issues that were perceived
as problematic in the past.
2.2 The monetary policy strategy of the
ECB used to give a prominent role to money in the assessment of
risks to price stability. More than four years of implementation
have shown that it is very difficult to clearly and transparently
refer to money supply growth in communicating policy to the general
public. Money supply growth has suffered from a number of distortions
in the past and data needs to be adjusted to provide a meaningful
indication for monetary policy. While money supply growth certainly
maintains an important and crucial role in the ECB strategy and
will probably correctly continue to do so in the future, before
the strategy review it had become an extremely tricky element
in the ECB communication policy. This is why the ECB decided to
downplay its role. Monetary policy decisions continue to be based
on a comprehensive analysis of the risks to price stability, but
in its new structure of the introductory statement the monetary
analysis no longer has a prominent role. It now "mainly serves
as a means of cross-checking, from a medium to long-term perspective,
the short to medium-term indications coming from economic analysis"
(ECB press release, 8 May, 2003). This makes much easier and more
effective the ECB communication process.
2.3 There are, however, other important
communication and transparency issues that need to be addressed
and these are closely linked to the previous point, ie the composition
of the Governing Council and the voting system. The ECB has designed
its communication strategy within the current institutional framework.
An independent Governing Council, not formed on the basis of country
representation but exclusively on professional grounds, would
change the current debate on communication and transparency. The
issues related to the press conference immediately after the ECB
Governing Council decision, the publication of minutes and votes,
and the identification of individual positions would have a different
2.4 With the current and prospective composition
of the Council based oil national representation, it would be
embarrassing and not advisable to publish minutes that could identify
individual positions, let alone voting behaviour. In a multi-national
organisation in which Council members participate exclusively
in a personal and independent capacity and make their own personal
judgement without being influenced by national interests, it would
instead be feasible to do so. The bare fact that the Governing
Council members are the governors of the national central banks
is constraining the ability of the ECB to achieve the maximum
desirable level of transparency and the best communication strategy.
2.5 The press conference immediately after
the decision can be considered the maximum level of transparency
a central bank can provide, while protecting the anonymity of
member positions and voting behaviour. Although the ability of
ECB President Duisenberg to perform this extremely difficult task
has been better than his critics appear to suggest, there is no
doubt that sometimes the press conference adds confusion and does
not deliver clear messages. And, in turn, this may cause undesirable
volatility in financial markets. Moreover, it unduly exposes the
credibility of the central bank to the ability of its President
to clearly spell out Governing Council conclusions and the different
aspects of the debate within the Council. However, given the current
and prospective bias to national representation within the Council,
it would be desirable to maintain this risky, but at the same
time important, exercise in transparency, and not publish minutes.
According to the ECB, "the Governing Council acts as a collegiate
body and is collectively responsible for its decisions" and
given the current setting this seems to be the most desirable
2.6 Should the appointment to the Council
and voting modalities change in the future to the point that individual
positions are fully de-linked from perceived national interests,
the communication policy could change. The abolishment of the
press conference and the introductory statement in favour of a
short communiqué followed by detailed minutes with a short
delay (one-two weeks) would then be a desirable change. This would
add transparency, in a sense that positions and reasoning would
be spelled out clearly while reducing the risks of misinterpretation.
2.7 The interaction between the ECB and
the European System of Central Banks has developed in a way one
would have expected given that the boundaries of responsibilities
are sometimes not clearly defined or agreed. The latter problem
does not appear to have substantially interfered with the conduct
of monetary policy. The preparation of Governing Council meetings
relies on preparatory meetings and close consultation with national
banks, the details of which are not publicly available. There
seems to be no anecdotal evidence that this process has not performed
properly. One way to improve this relationship, would be to re-direct
economic analysis at national level to make it more co-ordinated
and relevant on a pan-European scale, possibly by publishing regular
updates on regional developments (a report similar to the "Beige
Book" in the United States).
2.8 Finally, one important issue is whether
the ECB communication strategy has constrained its action, and
especially its ability to react promptly to economic developments.
The publication of minutes and individual views may have the effect
of binding individual Council members to previously expressed
positions, or even "lead to undue pressure to deviate from
a euro area perspective" (ECB), and this is a risk the ECB
is not running. However, the fact that individual members of the
ECB Council have not substantially deviated in their public appearances
from the line defined in official ECB meetings may have reduced
the possibility to "prepare" financial markets for policy
shifts. This "lack of preparation" may have postponed
monetary decision that would have otherwise been taken earlier.
In the question and answer session of the 5 June press conference,
Mr Duisenberg was asked why the ECB had not cut rates before and
he replied: "the markets haveto a large extentalready
discounted the move we made today, whereas they would have been
very surprised if it had been done last time". Allowing individual
members to express themselves not as representatives of the Council
but as individual members expressing their own views would allow
financial markets to be alerted by shifts in Council members'
views, and therefore project possible changes in Council monetary
stance. In the past, individual positions have emerged anyway,
as it is almost impossible to prevent individual members from
adding their personal flavour to a commonly decided line. Still,
this would happen more openly with a different Council arrangement.
There are also some drawbacks to openness. Allowing Council members
to publicly express themselves in advance of the next policy meeting
would risk increasing volatility in financial markets and sending
contrasting messages. But these drawbacks are acceptable. All
in all, it looks like the constraints of the ECB communication
strategy have produced a modest, although probably non-negligible,
delay in monetary policy decisions.
Should the ECB continue to set its own inflation
target? What alternatives are there?
What is the experience of the testimonies of ECB
before the European Parliament? Does the European Parliament sufficiently
call the ECB publicly to account? To what extent has the ECB been
steady to listen, to explain and, if necessary, to learn?
How regularly have members of staff of the ECB
appeared before national parliaments?
3.1 Some pundits have argued that it is
rather unusual to give a mandate to an institution and, at the
same time, allow this institution to set its own targets against
which it is measured. This is currently the case for the ECB,
while in the United Kingdom, for instance, the government sets
the inflation target for the Bank of England. In the United States,
the Federal Reserve has not set an explicit, numerical objective
for inflation. Federal Reserve Chairman Paul Volcker offered the
following definition of price stability in 1983:
"A workable definition of reasonable `price
stability' would seem to me to be a situation in which expectations
of generally rising (or falling) prices over a considerable period
are not a pervasive influence on economic and financial behavior.
Stated more positively, `stability' would imply that decision
making should be able to proceed on the basis that `real' and
`nominal' values are substantially the same over the planning
horizonand that planning horizons should be suitably long."
3.2 In 1994, Federal Reserve Chairman Alan
Greenspan described the price stability objective in a similar
"We will be at price stability when households
and businesses need not factor expectations of changes in the
average level of prices into their decisions."
3.3 Translating this broad objective into
a specific numerical target is a rather technical exercise and
the answer may change over time. The ECB is best equipped to answer
this question in the most qualified manner, especially if we compare
its ability to European governments, the EU Parliament, the EU
Commission or the EU Council. The fact that the ECB sets its inflation
objective to be "below 2 per cent" with the aim to maintain
it "close to 2 per cent" over the medium term, and at
the same time is judged against this benchmark is not an aberration,
provided the target is spelled out clearly. The issue as to whether
this target is spelled out clearly would open up a long discussion,
but there is no doubt that the ECB can be held accountable for
this self-imposed target.
3.4 Considering the public documents available,
the experience of testimonies of the ECB before the European Parliament,
as well as ECB staff before national parliaments, has been acceptable
from the point of view of accountability and transparency.
9 June 2003
1 The opinions expressed herein are those of the author
and not necessarily those of his employer. Back