The European Central Bank (ECB) is widely perceived as being 'genetically' close to the German
Bundesbank, notably in its institutional independence from political 'interference', its emphasis on
a conservative definition of price stability and the explicit attention paid to monetary aggregates
within its monetary policy framework. But if this perception is accurate, why should any member
of Europe's economic and monetary union (EMU) - Germany included - have wanted to substitute
the Bundesbank with its 'twin sister'? And what are the implications for EMU's future
development? Xavier Debrun addresses these questions in the latest issue of the Economic
Journal.
Debrun notes that from a strictly economic perspective, the image of the ECB as a supranational
Bundesbank is puzzling:
l First, it defies mainstream macroeconomic analysis, which thinks of the ECB as a blend of
the national central banks of EMU members.
l Second, it runs against the logic that sees participation in EMU by countries other than
Germany as a way to regain part of the monetary power lost in the exchange rate
mechanism of the European Monetary System (EMS), which was notoriously dominated
by Germany.
l Third, it raises the question of why Germany would prefer a supranational clone of the
Bundesbank to the Bundesbank itself within an EMS under German hegemony.
Debrun solves these puzzles and reconciles standard macroeconomic analysis with the perception
of a German legacy to the ECB. His analysis studies the interaction among national governments,
members of a fixed exchange rate system, negotiating the constitution of a full monetary union
and, more specifically, the characteristics of its common central bank. The analysis emphasises the
following aspects:
l Given the explicit co-ordination it creates among members on the area-wide monetary
stance, a monetary union provides a more fertile ground for efficient policy choices with
respect to a system of fixed exchange with forced convergence of national monetary
policies (and the related risk of crises). This offers a rationale for the German preference
for EMU with a German-style central bank over a hegemonic EMS dominated by the
Bundesbank itself.
l Two arguments, beyond the often-invoked reputation gains, may explain the institutional
similarity between the ECB and the Bundesbank:
m First, non-German negotiators, conscious of the complexity of achieving domestic
consensus on the optimal low inflation rate, may view EMU participation as a short
cut to benefiting from credible monetary institutions. The existence of a domestic
consensus on price stability in Germany therefore offers German negotiators a
greater bargaining power in the determination of the institutional characteristics of
the ECB.
m Second, the bargaining power of Germany is further reinforced by the fact that a
likely alternative to EMU would be a system of pegged exchange rates under
German dominance like the EMS and its ancestor, the 'snake'.
Regarding the future of EMU, Debrun's analysis hints at the following:
l The suspected German bias of the ECB might fade away as the perception of EMU's
irreversibility is strengthened and the threat of falling back on an EMS-like arrangement
disappears. Possible changes that would not require an adjustment of the legal framework
might involve a less conservative inflation range targeted by the ECB or abandoning the
explicit reference to monetary aggregates in the policy framework.
l The entry of new members with a weak reputation for price stability will not necessarily
threaten the ECB's anti-inflationary credentials, as newcomers will enjoy little bargaining
power to alter them. One scenario is that they might be prepared to enter 'constituencies'
like those of the International Monetary Fund (IMF), headed by a delegate of a founding
member of EMU, without significantly impinging on the established decision pattern
within the ECB board.
Notes for Editors: 'Bargaining over EMU versus EMS: Why Might the ECB be the Twin Sister
of the Bundesbank?' by Xavier Debrun is published in the July 2001 issue of the Economic
Journal. Debrun is at the International Monetary Fund.
For Further Information: contact Xavier Debrun on 001-202-623 8321 (email:
xdebrun@imf.org); RES Media Consultant Romesh Vaitilingam on 0117-983-9770 or 07768-
661095 (email: romesh@compuserve.com); or RES Media Assistant Niall Flynn on 020-7878-
2919 (email: nflynn@cepr.org).