The progressive elimination of the borders for capital flows, since the end of the Eighties, had given to the central banks a major role in the elaboration and the implementation of the economic policies. At the origin, they were in charge of the supply of payments tools and of coming to help the States when these ones were going through a crisis or to finance a war effort. The economists under Milton Friedman and the Chicago school aegis gave then to them a determining mission in the achievement of the major equilibriums. Through the management of the money supply, they would allow to guarantee a stable growth without activating inflationist waves.
But to do that, they must not be submitted to government interventions. Germany, through the guarantee in its statute of Bundesbank independence, had set an example. Its historic past with the big inflationist crisis in the Twenties, which was not be without consequence on the Nazism rise, was justifying that vigilance, accepted by the population and assumed by the political forces. In the U.S., written obligations were not needed. The personal authority of the Federal Reserve chairmen, nominated by the President after a complex procedure in the Congress, gave to them the tools allowing them to resist to political pressures which could have affected their missions. The situation was not very different in the United Kingdom whose prosperity was closely linked to foreign investors trust. Political interventions would have affected that trust and the governments did not take the risk. So statutes were not needed.
The situation was different in Japan and in the other European countries. In France, the Banque de France had always been an instrument of the State, so of the power in place. Everything changed with the creation of the euro. Germany wanted to be protected against inflationist drifts which could have come from the other State-members and against the risk to have to finance the deficits of its partners and it imposed rules guaranteeing the European Central Bank independence. It made adopted statutes defining its mandate at the first place of them was inscribed price stability. The ECB could act to support growth and employment to the condition that price stability was not put into question. The main tool was the fixation of short-term interest rates. But its power of intervention was limited because it could not directly finance the members-States through the subscription of their debt issuances.
The ECB adopted as an objective that prices increase in the euro zone had to be at a level near but under 2%. The Federal Reserve, without explicitly saying it adopted a same objective and the world economy until the 2007-2008 financial crisis went well with a system which deprived the governments of a strategic intervention tool without that causes major economic and financial disequilibrium. The sub-primes crisis even lead to the strengthening of the power to control financial institutions whose improvidence in the U.S. had been at the origin of the crisis. As the same, the euro crisis, which was an indirect consequence of the American financial crisis, has opened to the ECB a new intervention field through facilitating the rescue of Southern European countries and Ireland through the purchase on the market of bonds for an amount of 220 billion euro which made easier the subscription of new ones. Without that, these States were risking default which would have affected the very survival of the euro.
But that crisis has also showed a turnaround with the reduction of the inflationist risk. The intensification of the international competition has weighted, in every country, on goods prices. The shale gas revolution in the U.S., to the difference of what had happened during the past thirty years, has eliminated any risk of a significant rise of energy prices. At last, innovation, with the new technologies for manufactured goods as for services with the multiplication of platforms has also contributed to prices stability. The central banks mandate then lost a large share of its purpose. Instead of acting to have inflation coming back under 2%, they thought that their role was, to the contrary, to make it rebounding to reach a level near 2%. So they didn’t take the risk to be in disagreement with their governments and to be forced to invoke the independence with which they were granted, explicitly or implicitly.
The pandemic the world is going through incited them to go further. They have been called by the States to help them to finance the brutal increase of their deficits through keeping negative interest rates almost everywhere in the world and massively buying public debts bonds on financial markets. In doing so, in Europe, the ECB was circumventing its statutory interdiction to make the acquisition of State bonds at their issuance. That didn’t raise any critic. A new program (PEPP) was launched at the beginning of the pandemic representing 600 billion euro. It was increased until 1350 billion in June 2020 and was, once more increased in 2021 to reach 1850 billion. The ECB was also supporting the rebound plan, decided by the States, approved by the European Parliament but whose ratification is blocked in Germany by the referral to the Constitutional Court.
In the U.S., the Federal Reserve president has clearly announced he was supporting the rebound policy proposed by Joe Biden and adopted by the Congress, abandoning any reference to price stability objectives, to the risks generated by the size of public deficits and even going to declare that the interest rates offered by his institution will durably remain very low, at least until the end of 2023. In Washington as in Frankfurt, they are ready to support through their financing rebound policies with a Keynesian inspiration.
Despite that, their action is going to face a double limit. It is not possible to ignore the link between their actions with the huge rise of the stocks markets, in total contradiction with the situation of the economies. Very favorable financing conditions have feed large speculative operations. The monetary policy has been distracted from its object. Investment funds bankruptcies which are affecting the banks which lend them money have not yet reached, as during the sub-prime crisis, a systemic level but it is not anymore possible to completely set aside that risk.
The other limit is about the situation of the central banks themselves. Due to their massive bonds buying, they carry in their balance sheets assets which would be heavily affected if interest rates were increasing. So they are facing a dilemma: to achieve they mandate or to protect their balances sheets. It is possible to answer that as the States are their only shareholders, it is them, at the end which will support the consequences. But they are independent institutions and it will difficult for them to assume decisions whose immediate consequences will be the apparition of heavy losses caused by their action.
Globalization has already changed the world. The seriousness of the damages caused by the pandemic to the world economy and to population will probably drive to rethink economic policy tools. Central banks will not remain outside that rethinking on a possible transformation of their role.