30 April 2014

The Central bank of the Union - objectives

I begin this post with a quote of a saying “Money is always only on the first place”. Its author was somebody from a circle of Václav Klaus, the first post-communist minister of finance of Czechoslovakia then, shortly after the year 1989 when Czechoslovakia began under his management creating flourishing capitalist society with an intention “to catch up with Europe”. That saying that became popular soon was a cynical expression of an attitude that Václav Klaus held: we (at least somebody) must get rich by any possible means, must not have regards for anything and not let be restricted, in particular not with morality or even laws. It can therefore appear that validity of that saying is limited with place and time to wild transition of central-eastern and eastern Europe to capitalism but it has more general validity. Paradoxically those who only learned what capitalism is exactly articulated its most significant feature – worshiping money. But I want not to moralize about influence of money on the human society in this place, I used the saying because it excellently puts its finger on the most significant feature of human doing in Europe today. But it is surprising all the more so that what everything bows to in reality gets only small attention in documents the function of which is to determine principal rules governing functioning of states.

Supervision over money or currency is entrusted to a central bank in every European state because reality demands it. But if we should judge only by constitutions of the European states we would reach the conclusion that central banks are anything but equal with parliaments, governments and courts by their importance – in the society where central banks (at least some of them) can take measures of more significant implication than parliaments, governments and courts together really strange thing. From 28 constitutions of the present EU states, there is not a mention about existence of a central bank in the respective state in 15 of them – it is absolutely unbelievable thing in capitalism but it would not be less surprising even if there was not capitalism in Europe. In remaining 13 constitutions usually one or few sentences are that mention existence of a central bank, give a definition of its function and refer the rest to a separate law; in some constitutions existence of a central bank is mentioned only by the way and its functions are not defined. If matters referring to, for example, the parliament were prescribed in the same way it would be written only: “For the purpose of exercising the legislative power, there is a parliament. Its functions and powers are stipulated by the law.” The contrary is however true; a contrast between detailed regulations about a form, composition, election, powers and work procedures of parliaments in the European constitutions and almost complete absence of similar regulations referring to central banks could be justified only in the case that central banks would be little important institutions equivalent to meteorologic institutes. It is however possible that the mentioned absence of regulations in the constitutions is maybe unintentional expression of that regulating money comes not under the main duties of the state. One would say – no wonder in neoliberal capitalism; but duties of a central bank are with at least a few sentences described in the constitutions of east-European states that were created in the era of neoliberal capitalism in which the markets have dominance over democratic politics whereas the constitutions of the western states created before neoliberal era conceal existence of central banks.

In every case, the present practice of the European constitutions is wholly untenable in the constitution of the European federation. It is out of the question that functioning of an institution performing such important function for the society, namely regulating money, is not regulated with more detailed provisions in the constitution than is usual now. These provisions have to regulate chiefly two most important things – the aim and duties of the central bank and a method of decision-making including its staffing. Now, I will deal with the first one.

From the very beginning when I started describing my idea of the constitution of the European federation here I subordinated everything to a fundamental categorical imperative that all public politics exercised by the institutions of the federation must be democratic, that they must proceed from the will of the European federation's people and must serve to interests of the federation's people. Also the central bank of the European federation must naturally be subjected to this categorical imperative because such important thing as the currency of the state must equally as other public matters be under democratic control of the citizens who are fundamentally affected by the currency. Thinking about democratic character of the European federation's central bank and in particular about democratic control of the currency of this state (utopian for now) I came to the conclusion that the bank cannot be a mere copy of central banks of the present European states (or of the European Central Bank). However, I reached also the conclusion that to subject the currency of the European federation to the democratic control is not possible without a radical change of at least some aspects of the financial system as such. “Money governs the world.” But who governs money?

The primary aim of the European Central Bank is to maintain price stability (article 127 of the Treaty on the Functioning of the European Union); the same applies also to the central banks of the state where euro is not the currency. But in my opinion the main duty of the central bank of the European federation should be something else, namely to issue the currency of the federation. The objective to maintain price stability loses not its importance by it but in the method of issuing the currency of the European federation that I am to write about discharging that objective becomes a component of issuing the currency and those aspects cannot be separated from each other.

In earlier times, a monarch issued money (it was a sovereign's privilege) although he temporarily conceded it to some aristocrats or (especially in a time of a crisis) to some cunning businessmen (who promised to fulfill the empty treasury). In the modern time, monarchs were replaced by parliaments and governments and the right to issue money passed to a specialized state organ – a central bank. But the central banks of today do not the same as the monarchs earlier although it can look so at first sight. Any central bank in Europe (including the European Central Bank) has the exclusive right to issue banknotes and coins of the respective state currency (the ECB with its unique attributes). But it is by no means the privilege to issue the money in its whole because money has not only the form of banknotes and coins today – banknotes and coins from the times of monarchs were supplemented with electronic money in the 20th century and it is not completely issued by central banks; on the contrary, it predominantly originates in private commercial banks. In other words – the present state has not the privilege to issue its currency.

The main function of commercial banks is to grant credits, in other words to lend out money. They lend however not the money of savers because value of balances of savers' accounts is not affected by credit activity of the banks. In fact banks set a value of a credit in their computers and it grant to an applicant then; what is important, the applicant then can pay with the credit obtained this way as with “real” money, namely as with banknotes and coins. Because balances of savers' accounts remain unchanged new money that was not issued by the central bank come into circulation this way. The commercial banks are – mildly – limited in this action but credit money (or debt money) issued in circulation by one bank other banks can multiplicate and so the amount of money issued by the commercial banks is considerable in the end – the central bank is one, commercial banks are thousands. The outcome is that about 90% of all money are issued by private commercial banks and only about 10% of circulating money are issued by the central bank (I found this ratio equally for the Swiss franc and US dollar, I suppose however that this ratio is similar for other currencies). We got back with this to the times when monarchs conceded their currency privilege to private persons but we even surpassed them because no monarch relinquished his right to issue money to such large degree.

The present system has two implications for me: it is immoral and nondemocratic. If I make an imitation of a banknote in my house printer and try to pay with it I will be (severely) punished; if a bank makes money from nothing in its computers and grants it as a credit it will not be punished for it, to the contrary, it will be praised that it sets wheels of capitalist economy in motion. But there is no difference between me and the bank – I extend the amount of the money supply to achieve my private benefit, the bank extends the amount of the money supply to achieve its private benefit (the commercial banks are capitalist enterprises existing for achieving private profit). So why I should not have the right to issue new money into circulation for my enrichment whereas the owner of the bank should have the right? In addition, it is absurd in this situation that banknotes have a lot of security measures in order that they could not be imitated, on the other hand there is no security measure against imitating tangible money by pressing a key in the keyboard. And a practice caps it all that the present states borrow (instead of levying firm taxes) just the money created from nothing by the private banks in the financial markets and then they guarantee the loan with working of their citizens – almost effortless profit for the bankers secured. Who would not want to be a banker?

The second consequence follows from the character of money – money serves to all citizens, it is something like air or water in a way, therefore it should be considered a public property. But a public property should be under the democratic control in a democratic society and handling it should not be transferred to a private subject. Whereas issuing money by the central bank can be regulated through laws and the central bank is or should be this (or other that I will write about later) way responsible to the citizens, the commercial banks are responsible to nobody apart from the pocket of its owner. Massive creation of new money by commercial banks leads to devaluation of the currency or inflation to which then the central bank must react with its measures to curb it. It is paradoxical that it is wrong according to economists that issuing money is under the control of the government because it would have temptation to print money without limits to cover its expenditures and so cause inflation but the same economists do not mind that the private banks have almost that power today. It has to be admitted that the central banks have certain tools to react to inflation caused by issuing money through the commercial banks but it is only reaction to action of private subjects.

These two conclusions cause that I believe that issuing whatever form of money in circulation in the European federation can be entrusted only to the central bank under democratic laws and democratic control. I must however add to this that I am not completely sure how to properly formulate the mentioned requirement in the constitution's text. The best is in my view the reading “The Central Bank of the Union is a exclusive issuer of coins, banknotes and any other units of the currency of the Union.” But the text of the Polish constitution causes some dilemma to me; it says (article 227) that the Polish national bank “shall have the exclusive right to issue money“ (original wording is: “Centralnym bankiem państwa jest Narodowy Bank Polski. Przysługuje mu wyłączne prawo emisji pieniądza oraz ustalania i realizowania polityki pieniężnej.”) It should follow from this wording that expanding the money supply through credit activity of the commercial banks should be unconstitutional in Poland, in practice however there is the common capitalist bank industry with all common appurtenance in Poland. It can be probably concluded from it that money created through credit by the private banks in the territory of Poland is not considered money by Polish public authorities (the Polish central bank states in its web pages only issuing banknotes and coins as its competence) and it therefore comes not under the competence of the central bank which is absurd because one can pay with credit-created money just as with money issued by the central bank. It is unconstitutional after all in my view if wording of the Polish constitution should be taken seriously and it is at least an absurd situation but where is a plaintiff absent there is a judge absent as a proverb says. Hence my doubt whether my wording mentioned above will be interpreted correctly as a prohibition to issue money through credit in the commercial banks.

I read several popularizing books about economy and it is strange that the authors criticised existence of the central banks and advocated free enterprise in the economic field. It is obvious that the mentioned books are biased, they were written from the view of one economic theory (that all enterprise should be unregulated in capitalism) yet their criticising the central banks touches a certain possible problem. In the present system, if there is not a crisis, probably the main source of inflation is multiplying money through credit activity of the commercial banks. But it follows not that the central banks have no possibilities of inducing inflation. They do it for example through purchase of government bonds and other open market operations; all such tools have as their object to pour money in economy (first of all in the commercial banks) which increases inflation. If there should be a system of exclusive issuing the currency of the federation by its central bank in the future European federation and if the commercial banks should be forbidden from creating new money through credit activity the central bank becomes the only institution capable of inducing inflation (I simplify, I know, inflation is a bit more complicated matter). In that case it is necessary to insert such provision in the European federation's constitution that prevents its central bank from inducing inflation. Should I not write “unchecked inflation” instead just “inflation”? Laws determine to maintain price stability as a primary objective to the central banks which is another way how to say that they should fight inflation. But the said laws do not specify what exactly the central banks should achieve and in what way; it is left to their deliberation. A dilettante would say that price stability is zero inflation, but economists express their opinion that moderate inflation is beneficial. There are various substantiations for this. One of them says that the central banks do not know exactly the inflation rate but they assume that it is lower than the measured one and therefore they keep it slightly above zero (around 2%). Another substantiation says that moderate inflation is a security measure in order that the central bank has a manoeuvring space for the case of a potential crisis, yet another that it stimulates economy because consumers do not delay their consumption because they expect that prices will be higher due to inflation in the future. These all and other substantiations may be true but also need not to; however if inflation is defined as devaluation of the currency I am for zero inflation as a primary objective of the federal bank of the European federation (by the words that is should preserve stable value of the currency of the Union – inflation is by contrast constant devaluation). The matter of inflation and its role in action of the central bank of the European federation is complex so I leave some other remarks of this thing to the next post.