Skip to Content

10-Year retrospective: Lesson 2

Central banks into milch cows

A leading economist has predicted that central banks will  not remain independent much longer. His forecast was made  at  a Bank of England conference called to celebrate – yes – 20 years of independence. Guests included Mrs Theresa May, the Prime Minster. It was opened by the Governor, Mark Carney, who drew a different, but equally startling, lesson from the crisis.

Willem Buiter, chief economist of Citi, put up two slides where he declared that:

1. The modern central bank has control over too large a volume of quasi-fiscal resources to be allowed to operate independently

2. Central banks/bankers have intruded in policy areas beyond their mandates and competence

3. We have had 25 years of low inflation in most advanced economies.  Politicians and the public now take this for granted

4. The conduct of monetary policy has been at best moderately competent.  5. Communication has been a disaster

6. Populism means distrust of experts, establishment, elite.  Central banks are seen as experts, establishment, elitist etc.

To have any chance of surviving as operationally independent entities, the following has to happen:

1. Central banks should become narrow monetary authorities

2. Any credit risk taken on by central bank should have a full sovereign guarantee

3. The central bank should not be the leading macro-prudential or micro-prudential supervisor or regulator; it should not play a leading role in deposit insurance and SIFI recapitalization

4. Reinvigorated Tripartite arrangement (FSOC with teeth, European Systemic Risk Board with strong fiscal representation) should coordinate preventive and corrective financial stability policies of all agencies, including central bank.  It should be headed by the Treasury (for the Eurozone, the closest thing to a Treasury).

5. Accounting: central bank should be part of the general government sector.  Its accounts should be consolidated with those of the central government

Central bank independence, even for a narrow, open and accountable monetary authority, is unlikely to survive much longer

(1) Milch cow (a person or organization that is a source of easy profit) irresistible, both through explicit transfers to Treasury and through quasi-fiscal subsidies and taxes

(2) 25 years of low and stable inflation has dulled the memories of the bad old days of high and highly variable inflation. Low inflation is taken for granted; the belief than an operationally independent central bank is necessary for this is waning.

(3) Populism (people’s QE) is on the rise.

(4) Helicopter money only consistent with central bank operational independence if the central bank can say ‘no’, if it considers helicopter money to be in conflict with its mandate

(5) Even if central banks can veto helicopter money under these conditions, the government can always change the mandate…

(6) When there is a stand-off between a single national Treasury and the Central Bank, fiscal dominance is overwhelmingly likely to prevail –except in Eurozone…………….

end of quote

Well, central bankers, welcome to your lives as “milch cows”.

“A dangerous distraction”

Oh, and by the way, Governor Mark Carney admitted in his remarks that the financial crisis had exposed how the Bank’s focus on price stability had become “a dangerous distraction”.

Now you have it from the horse’s – or maybe cow’s – mouth: indeed, Carney stated said explicitly that this was one of the three “lessons learned” from the crisis.


Willem Buiter’s slides and the conference agenda can be downloaed here

Mark Carney’s remark was made in the course of his speech here;