Procedimiento

was achieved in such a relatively short time rnakes the history of the currency remarkable. What is perhaps even more remarkable is its future. That a currency which achieved so much, and which was for that

{p. 234} reason so popular with the citizens of the country that used it is to disappear into EMU [European Monetary Union] in 2002 is, at the least, surprising.... One could not but be surprised that a currency at once a cause and a symbol of Germany's recovery should be abandoned in a democracy."7

The Primacy of Politics

Economists knew all the while that there was no good economic rationale for abandoning the

mark. Many of the economists at the large German banks, for instance, wanted to issue warnings

about the costs and dangers to Germany of the introduction of the euro. However, the boards of their banks did not allow them to publish such research. To the contrary, only positive analyses

were allowed to be published.8 There can be little doubt that the reasons for the creation of the euro were not to be found in the realm of economics.9 Monetary integration had been used as a tool to accelerate the unification of Europe and push toward the establishment of a

Despite the public information campaigns and the occasional muffling of intellectual opponents of the euro, grassroots resistance to the single currency remained strong in many major European countries, including Germany and France. Opposition is probably still strongest in the United

Kingdom, whose population is aware of the inevitable loss of sovereignty and control over its

destiny if it gives up its own money. Referenda held in Denmark and Sweden were

uncomfortable for politicians, because the population turned out to have a different

opinion than they did. Thus they will be asked to vote again and, if necessary, again after that. It

would also have been difficult for any referendum in Germany to achieve a majority in favor of the abolition of the mark and the adoption of the euro. That is why no such referendum was

ever held. Instead, politicians used taxpayers' money to fund expensive publicity campaigns to

make the euro popular. Power in the Hands of a Few

The area where the euro is used includes a population of about 290 million, with a GDP of more than E7 trillion. This closely rivals the United States, with a population of about 280 million and a GDP of about E8 trillion. The handful of decision makers at the European Central Bank control the amount and ultimately also the allocation of money circulating in the twelve countries in this region.11 This is no small matter. History has shown that the power to create and allocate

money easily rivals, and usually dominates, military might.

Yet the often dismal performance of politicians has convinced many observers that it may be

preferable to hand power over to objective technical experts, such as the central bankers.

There are several problems with this argument. First, even technical experts are humans. As such, they are as prone to errors and acts of selfishness as anyone else. What they need is the right incen-

{p. 235} tive structure to limit these tendencies. This means meaningful accountability for their policies. Second, are central bankers really always objective? In the words of the chair of the economic and monetary committee of the European Parliament, the German Christa Randzio- Plath, "monetary policy is never neutral. It affects growth and employment."12 That is why, before the establishment of the ECB, Randzio-Piath was pushing for greater transparency and accountability of this institution - in vain, as it turns out. Especially given Europe's - and Germany's - disastrous experiments with unaccountable and opaque control regimes in the twentieth century, it is astonishing to find that yet another experiment with centralized control is being attempted. How was it possible that such enormous power over such a vast region has been handed to such a small number of people?

For the Sake of Low Inflation

The European Commission, an unelected group whose raison d'etre is to build a United States of Europe with all the trappings of a unified state, had an interest in weakening individual

governments and the influence of the democratic parliaments of Europe. What better way than creating an independent European Central Bank? What is not so easy to see is why Europe's

parliamentarians should have agreed to their own castration, which the creation of central bank

They agreed because they believed that economic theory as well as historical reality had

proven this to be the best solution. Just as in Japan's case, the creation of the strongly

independent ECB was justified with the argument that this was the "human wisdom

nurtured by history," to use Mieno's words - especially the history of the Bundesbank.

Indeed, the German experience with the Bundesbank has been largely positive. But as we see from this book, that is the exception in the relatively short history of central banks. The

experience with the Bundesbank's predecessor and with the central banks of other countries has not been as happy. This raises three questions: What made the Bundesbank so successful? Is

the same ingredient for success also to be found with the ECB (and the Bank of Japan and

other central banks)? What, indeed is the definition of "successful" monetary policy?

Inflation is usually considered the main policy mistake that central banks or governments can commit. Pundits have boiled the message down to the formula that central bank policy is successful if there is little inflation. Indeed, during much of the postwar era, German inflation

has been modest by international comparison The same commentators usually argue that the main ingredient of the Bundesbank's success of low inflation was its independence. This view has become accepted wisdom, so much so that we hardly ever ask whether there is any real evidence for it.3 Several influential academic studies have offered such evidence showing statistically that the degree of independence of a central bank is

{p. 236} correlated with lower inflation. The less influence governments can exert over central banks, the more stable the currency, they say.

It turns out that the scientific evidence for central bank independence that was relied upon in

the Maastricht Treaty derives from a single study that was commissioned by none other than the European Commission itself - an interested party. Published in 1992 under the name

"One Market, One Money," the study purported to demonstrate that central bank independence leads to low inflation.14

Phony Findings

How reliable are the findings of this study? A closer look reveals that there is no such

scientific evidence. The study arbitrarily selects a number of countries, then arbitrarily

determines the degree of independence of their central banks and then finds that this is correlated with the past inflation performance of the country concerned. There were no tests to determine

whether the results vary if one uses a different time period for the average inflation than the one chosen by the authors. There were no tests to demonstrate whether a different selection

of countries, other than the seventeen picked by the study, would yield a different result.15 Most damning, however, is the methodology employed to determine the degree of central bank independence of the countries that were examined. Since there is no official index of central

bank independence, the authors set out to create one. James Forder, an independent

economist at Oxford University, has examined whether the researchers carefully followed their own definitions of independence and hence were at least internally consistent in their argument - the most basic and necessary (but not sufficient) requirement for scientific research.16

His findings are shattering. He uncovered a string of manipulations of the data by the original authors, which happen to produce the desired answer that a high degree of independence is associated with low inflation. Correcting for these apparent "mistakes," Forder finds that some of the data points from the countries most crucial for obtaining the result suddenly differ. After his correction, no more statistically significant correlation could be detected between

independence and inflation. Forder's conclusion: The data and method used by the economists

commissioned by the European Commission do not provide evidence of any relationship between central bank independence and inflation.

The European Commission used this flawed study as the main argument for the

introduction of the Maastricht Treaty of 1992, which signed Europe up for rule by the ECB

under a single currency.17 We must conclude that statistically no robust link exists between central bank independence and low inflation.

Not by Low Inflation Alone

But we saw that inflation is not the only example of central bank policy mistakes. Japan's inflation rate has been lower than the German one for the past decades.

{p. 237} Hence by the traditional definition of the success of monetary policy, the Bank of

Japan beat even the highly respected Bundesbank at its game. Japanese consumer price

inflation averaged 1.5 percent in the last twenty years, compared to 2.5 percent in Germany. Consumer price inflation even turned negative in the late 1990s, averaging 0.8 percent during the decade (compared to 2.3 percent in Germany). Yet we all know that Japanese monetary policy

cannot be called a success over the last decades. This proves the point that low inflation must not remain the only way to measure a central bank's achievements.

There are many other serious problems that central banks can create, such as recessions. In this case, inflation may be low, but the economy may suffer from large-scale unemployment

induced purely by monetary policy. Central banks can also create deflation, which increases the

real debt burden of borrowers, such as homeowners with mortgages. This is what happened in

Japan and several Asian and Scandinavian countries. Again, by the measuring rod of low

inflation, the central banks would have been doing a good job. But in reality they were not doing their job at all.

Central banks can also cause excessive speculative booms through their policies. That is the story of the United States, the Scandinavian countries, Japan, and most of Asia, where asset booms were accompanied by stable consumer price inflation. Once again, if measured solely

by low inflation, central bankers seemed to be doing their job. But asset inflation stored up

enormous trouble for the future, ultimately causing the bankruptcies of a large part of the

corporate sector and pushing the economy into recession and high unemployment. Independence Does Not Guarantee Good Policies

There is no evidence that the central bank policies leading to asset inflation and then deflationary recessions in the above countries were determined by other actors, such as governments. Instead,

they were made by central banks that were largely independent from government interference concerning their crucial credit quantity policies. This shows that central bank independence alone does not guarantee economic success of monetary policy. The Swedish Riksbank, for instance independently created a credit boom in the 1980s and a credit crunch in the 1990s. The

U.S. central bank leadership was not influenced by political pressure when it increased