The central banks' governance is being called into question. They have lost the clarity of their mandate; they structurally lose their independence and, without the appropriate legitimacy and power, they should fulfill social and quasi-political responsibilities.
Those three significant challenges for central bank governance could well trigger a currency or monetary regime shift that can transform future generations of economies and markets. This is the triple challenge facing all the central banks, including the Federal Reserve and EMB, the Bank of England, Africa and Asia, Latin America, and Oceania. Let's explore the quality of governance in central banks in more detail – or perhaps more accurately this erosion.
The objective of central banks was previously clear: keep prices stable to reach a 2 % inflation target, for example. This mandate then started to change and evolved into dual orders, such as economic growth and job generation.
So is the stability of the mandate or the promotion of a dynamic economy? Strength in a world where disruptive behavior has become an unforeseen value is now the graveyard's stability. To reconcile dynamism and stability, the former Governor of the Central Bank of Brazil talks on slighting the cycle. However, during the financial crisis, this became even more unclear when central banks' actions seemed to benefit elites such as bankers and shareholders and lead to an increase in inequality.
The suspicion is growing that mandates can no longer be purely technical because they all involve side effects. The central bank policies and the unelected authorities that govern them indirectly influence social well-being, sustainability, environmental actions, and even industrial policies. In the socio-economic world, central banks create winners and losers, making their mandates more complex and ambiguous.
Central banks' independence was once sacrosanct. It guaranteed the full accountability and responsibility of a technocrat perspective on a defined, non-political, and technical purpose. The rise of authoritarianism and the questioning of free democracies put enormous pressure on central bankers by politicizing appointments and even removing them from office.
Indeed, the lack of clarification in central banking mandates, as discussed above, justifies this politicization. Indeed, the market and economics philosophy has shifted away from the pure market Chicago spirit.
Some central bankers also seem to be aspiring to the political role and the greatness it brings. These forces fundamentally turn good governance into boards rather than individual boards. These forces necessarily shift power internally. It improves system management utilizing new bodies such as committees for financial stability or gives other institutional bodies such as courts more power. An immediate result is also the loss of control of the typical central bank, which, ironically, is the most powerful economic actors in each country at the same time.
Central banks' actions can no longer be regarded as socially or even politically neutral. The long-standing low-interest rates have been comforting for individual central banks and have a significant impact on the durability of pension funds, which belong to many people, and favor some private actors seeking returns.
Emergency action can be neutral either, so lenders in the last resort have sudden social responsibility. Therefore, social trust has been affected by central and central bankers, expecting them to act responsibly in terms of preserving public financial health, protecting the consumer, mitigating climatic changes, and preventing social inequalities.
At a time when central banks lose their economic impact, this expectation of social responsibility has emerged. The Phillips curve has grown flat, and the massive central banks' balances are not being used strategically. Low-interest rates have shown their power to be asymmetric, with the Zero Bound restricted (and the risk of cash flow and negative rate inefficiency).
Notwithstanding these challenges, central banks can play a significant role in our economic and social future, particularly concerning the economic well-being and sustainability of our ecosystems. Good governance is central to the art of quality decision making. That's why central bankers need to address management's challenges and engage with the population in a sincere and accountable discussion and their role in our future.
There is no stopping the challenges facing central bankers. The ECB and the Fed again poured more fuel on an incendiary fire, as they were allowed to dictate the monetary policies' change. Regardless of the economic foundations, financial markets were driven from a record high, as traders and investors had to believe that central banks are their forever best friends ("BFF's"). Central banks have proven their willingness and capacity time and again to reduce volatility and keep stock and bond prices high. Consequently, investors' right approach has been to purchase and do so faster and more when the market dips.
But central bankers cannot assume calm conditions in 2020 given growing medium-term uncertainty. While extensive and predictable liquidity can help fair markets, existing obstacles to sustainable, inclusive growth are not removed. Especially the eurozone economy is saddled with structural impediments that undermine an increase in productivity. There are also profound long-term structural uncertainties resulting from climate change, disruptions in technology, and population trends.
There has been a widespread loss of confidence in institutions and experts throughout the world and a sense of significant societal segments of marginalization and alienation. More political polarization is intense, and uncertain transitions are underway for many democracies. Moreover, although a phase-one deal has temporarily alleviated trade tensions between the United States and China, the underlying sources of conflict are still unresolved. And suddenly, the global tensions have increased as tensions have escalated between the US and Iran, with Iran pledge additional reprisal for the targeted killing of Iran's top military leader by America.
This litany of uncertainties calls for a political answer that goes far beyond the traditional remit of central banks to ensure long-term economic well being and financial stability. It demands a full, multi-year commitment is employing structural, fiscal, and transboundary instruments. Otherwise, financial markets continue to expect central banking interventions, which are not only increasingly ineffective but potentially counterproductive, as indicated by a growing body of evidence. Whether or not central banks avoid the focus in 2020, their political autonomy and political credibility, which are so critical to their efficiency, are likely to face even more significant challenges.
Oct 05, 2020