Many nonconventional economists oppose the idea of the movement to a single currency with monetary policy administered by a European central bank, seeing as essential the retention of the exchange rate as an instrument for achieving a balance of payments "equilibrium." The aim of this paper is to examine the case for an independent European central bank, to consider the extent to which payment imbalances will be resolved, and whether achievement of high levels of employment and output growth are likely to be given high priority. We see control of inflation as instrumental to the achievement of these targets, rather than being the single most important policy objective.(1)
The paper commences with a brief consideration of the changing views of the role of central banks in the determination of macroeconomic policy. We then consider the rationale for an international central bank and the extra difficulties associated with the idea of independence before moving to the more specific question of the nature of a future European central bank. The tendency toward independent central banking (both at national and international levels) can be seen as a rejection of the spirit of Keynes since it has become associated with the idea that the control of inflation must dominate other macroeconomic policy objectives. We conclude by contrasting current European Union proposals for a central bank with the type of institution we see as necessary if the problems introduced by a movement to a single currency are to be overcome.
The Issue of independence for National Central Banks
Central banks arose out of a perceived need for the regulation and coordination of the actions of individual agents. The growth of domestic central banks in Europe was associated with control over monetary policy in an attempt to reduce the number and severity of slumps in the economy. Since, prior to World War I, governments were seldom bothered by the need to satisfy voters over economic policy, the fears of manufacturing and finance dominated economic policy, and their principal concern related to falling prices [Hicks 1967]. Central banks and their governors represented these interests.
The growth of trade union strength and of labor representation in parliaments after World War I increasingly brought unemployment forward as an issue in economic policy debates (culminating, in the United Kingdom, in the acceptance at the end of World War H of full employment as a target of policy). Under these circumstances, central banks became representatives of finance, and the concern over price stability changed into a fear of inflation rather than of falling prices.
A potential conflict then existed between governments wishing to remain in power and central banks; and, in most countries, governments rejected the principle of control of the economy by bankers and sought it for themselves. The central bank was then given the role of managing the credit system in accordance with the government's economic targets. Price stability (now firmly established to mean the control of inflation) was one of these but was not dominant.
This subordination of the central bank to the government was just one part of an increasingly interventionist approach to economic policy, which was consistent both with the objective of public control over private agents in the economy and with the Keynesian economic theory accepted by many governments in the 1950s and 1960s. The 1980s and 1990s have, however, seen a reversal to the earlier anti-interventionist approach, with an increasing demand for the dominance of the central bank over the government in the formation of economic policy - this time in the form of central bank independence with central bank rights and duties embedded in a written constitution. Central bank responsibilities may, of course, be broadly defined and need not necessarily conflict with the policy strategy of the elected government. …