The political battle over delegating decisions over monetary
policy to central banks has been fought and won. There may be serious concerns
about accountability in some countries, and mandates in others, but there seems to be a political
consensus in most places that delegation in this respect is a good thing. (I
know some readers disagree with this consensus, but this post is a question
about what could happen, rather than what ought to happen.)
There is no major country which delegates decisions over
aggregate fiscal policy. I stress aggregate here: I’m not suggesting decisions
about particular tax rates or types of spending could be delegated. Instead an
independent fiscal institution could set a target level for the budget deficit,
and leave it up to the government how that target was achieved. Furthermore the
choice between meeting the deficit target using tax changes or spending changes
would remain with politicians, so key questions about the size of the state
would stay under democratic control.
I’m reminded of this question not by the impending UK autumn statement, but because I have just received my
copy of a new collection of essays edited by George
Kopits. Its title is “Restoring Public Debt Sustainability: The Role of
Independent Fiscal Institutions”. The story behind the book is interesting in
itself. Its basis is a conference in Budapest organised by the former Hungarian
Fiscal Council. Although a few fiscal councils [1] existed a decade ago, in the
last ten years many more have been established, and that included one in
Hungary that George chaired. All such councils are advisory - none can tell
governments what to do. The meeting in Budapest was I believe the first
international gathering of these councils, as well as a few academics that had
a particular interest in these institutions. (It is what led me to create this website.)
The conference was a prelude to both success and failure. The
failure was that soon after the conference the Hungarian Fiscal Council was effectively abolished by a new government. For
that government this act was a good indication of things to come, as others have documented. The brief story of Hungary’s
Fiscal Council is told in one of the chapters of this book. However, the
success is that, with George’s help, the OECD took on the task of holding
regular gatherings of fiscal councils, and it has issued a statement of
principles which are an appendix to the book’s introduction.
A few of the essays in the book touch on the question I posed
at the beginning of this post, including my own, which compares the delegation
of monetary and fiscal policy. In a sense the demise of Hungary’s fiscal
council explains why most of the discussion at the conference was happy to see
such councils as advisory only. Giving governments advice they may well not
want to hear is difficult
and dangerous enough, and so fiscal councils need to be well established
(and therefore less vulnerable) before we can think of going any further. One
step at a time.
Yet once these councils have been established, it becomes
easier to imagine the possibility that delegation could go beyond advice to actual
control. Take the UK case for example. The government sets its fiscal mandate
(cyclically adjusted current balance in 5 years time), just as it does the
inflation target. The OBR then tells the government what it needs to do to meet
that mandate. So, having set the mandate, the amount of aggregate discretion
left to the government in each budget is limited. It would seem quite a small
step to let the OBR decide how quickly the mandate should be achieved. Another
small step would be for the government and OBR to negotiate over the mandate
itself (just as the central bank and government negotiate over the inflation
target in New Zealand).
Small steps, but much too large in political terms right now,
as I once discovered when giving evidence to the Treasury Select Committee.
(See the second footnote to this post.) Yet in ten or so year’s time, when more
of these councils are well established, I can see things might be quite
different for two reasons. First, when the recession is finally over there will
be a clear consensus that a slow (and state contingent) reduction in net debt
levels is required, yet some governments may start to waver from this task for
short term political gain. Second, it will have become even clearer that
governments, by undertaking austerity at just the wrong time, inflicted
substantial damage on their economies, and that maybe everyone would be better
off if they were not given that opportunity again.
[1] I use the term fiscal council to cover much the same set
that George calls Independent Fiscal Institutions. His term is probably more
accurate, but I still prefer fiscal council!
I Confess. I can't be optimistic concerning the delegation of fiscal decisions to independent institutions. Independent from what? Take the case of the European Union and of the tremendous acquis communautaire (independent?) in the management of public finances and look at the results achieved and even the inconsistent advices.
ReplyDeleteI agree.
DeleteThe idea that the current practise of independent central banks is an eternal transformation is counterintuitive considering how welfare negative this unaccountable dispensation has proved itself to be. A Europe in which serious attention must be paid to the antedeluvian blatherings of Jens Weidman cannot be said to have arrived at the final frontier. If war is too important to be left to the generals then certainly the economy is far too important to be left to a tiny class of overmighty clerics.
We had the gold standard and de facto central bank independence during the great depression. In Britain it took a mutiny by the Royal Navy to smash the shibboleth and force control to be relinquished by the clerks in Threadneedle street.
If the public must pay the taxes that fund fiscal policy then public representatives must be accountable for that policy. No representation = no taxation.
Fernando,
DeleteThe answer to your question “Independent from what?” is: independent from, or isolated from the temptation faced by politicians to boost spending before elections. Put another way, what determines the aggregate effect of fiscal policy at the moment is, 1, expert advice given to finance ministers, and 2, the above mentioned and undesirable political input. Thus retaining the former desirable element, while excluding the latter undesirable element strikes me as a no brainer.
Re Europe’s acquis communautaire, the latter term is very vague: it refers to a large amorphous accumulation of legislation. If you want to use the example of Europe to attack the above “independent” idea, I think you need to point to SPECIFIC CASES in Europe of where the “independent” idea has gone wrong.
Ralph
DeleteThanks for your reply
I'm no expert and for me there is a difference between the theoretical world of simples choices modeled with heroic math and statistical assumptions and reality itself. In the real world these institutions must be funded and must thank the funders present or future. In the real world also there can happen a macro-envelope where the financing costs of public investment by public debt are inferior to the rate of return of those long term investments. So, in these circumstances I would vote for the politicians who supported this public investment with recourse to public debt.
Concerning the "acquis communautaire" I was referring mainly to the "European Semester", the "Stability and Growth Pact" (SGP), the "Excessive Deficit Procedure"(EDP), the "Stability/Convergence Programs", the "National Reform Programmes", tthe "Six Pack", and so on...
I think these are specific cases of "independent idea", particularly the EDP with known results as for example the violations by the Eur Member States heavy weight in the European economy.
Best regards
Fernando,
DeleteRe your first point, you argue for “politicians who support public investment” where “financing costs of public investment by public debt are inferior to the rate of return of those long term investments.”
In that case it seems to me there’d be no need for political intervention because the experts would presumably spot those worthwhile public investments, and back them (or at least not oppose them).
Your point would have more force if those investments WERE NOT viable in strictly commercial criteria, i.e. where the “rate of return” was inferior to “financing costs”. (Perhaps that was what you meant to say.) But there’s a flaw in that argument, as follows.
Politics is all about the above very point. I.e. the central point that the political left and right argue about is: how much non-commercially viable spending (investment spending included) do we have? But the independent committees under the independent idea just aren’t allowed to engage in politics. E.g. if the country votes (to take the extreme case) for ludicrously unviable types of spending, then so be it. The committee of economists envisaged by Simon and others like Richard Werner would not be able to question the latter types of spending: their task is simply to say what sort of aggregate fiscal boost (or fiscal plus monetary boost) the economy needs.
Re the SGP etc, I think those are as different from the “independent” suggestion, as chalk is different to cheese. For example, the independent idea applies to the WHOLE OF a monetary area (e.g. the US or UK). In contrast, the SGP etc do apply to the whole of the EZ, but they also apply to INDIVIDUAL parts of a monetary area (i.e. specific EZ countries).
Second, the independent idea gives experts the right to suggest ANY LEVEL of fiscal boost they see fit. In contrast, the SGP etc specifically aim to LIMIT the size of fiscal boosts.
How can you hope to target the deficit in a welfare state? Both revenue and taxes are functions of economic activity.
ReplyDeleteIn any event, a lot of the stabilising action of fiscal policy is automatic, and does not face the same sort of forecast errors monetary policy faces. They are also geographically targeted. The question I would ask - can the effect of automatic stabilisers be strengthened?
Brian,
DeleteMaking aggregate fiscal adjustments fully automatic or nearly so would be possible if the economics profession were more or less agreed on the equation that described the economy. To judge by the feathers flying on sundry economics blogs, we’re some way from that right now. So a bit more automation, as per your suggestion might easily be possible. But the final decision on aggregate fiscal adjustments will be taken for some years yet by using judgement – along with equations fed into computers of course. So that leaves the question: whose judgement? My answer is: a committee of independent economists, as per Simon’s suggestion.
Things like unemployment insurance are what I meant be automated - automatic stabilisers. Also, taxes witheld at source drop when people leave employment. This creates a targetted fiscal change precisely ithe areas where job losses occur.
DeleteSimon,
ReplyDeleteThe submission to the Vickers commission by Positive Money, Richard Werner and the New Economics Foundation argued for your suggestion, but in more extreme form. That is they argued for a MERGING of monetary and fiscal policy, with decisions on stimulus taken by an independent committee of economists. See:
http://www.positivemoney.org.uk/wp-content/uploads/2010/11/NEF-Southampton-Positive-Money-ICB-Submission.pdf
When I say “merging”, what they proposed was that in the event of £Xbn a year of stimulus being needed, the government / central bank machine would simply run a deficit of £Xbn a year and that would be funded by new money. As to what extent the deficit was made up of extra public spending vis a vis tax cuts, that would be up to politicians and parliament.
Advocates of Modern Monetary Theory also tend to favour the above sort of policy, though they haven’t thought out the details nearly as well as the above work.
Isn't this basically what the Eurozone countries already have? They're being told to keep deficits below a certain threshold, but each decides how that happens.
ReplyDeleteMy fear would be that an independent fiscal policy institution would promote pro-cyclical fiscal policy for a few reasons:
-What we've seen in the Eurozone - Olli Rehn isn't exactly Europe's biggest opponent to austerity
-The main constituents who oppose austerity are people from lower socio-economic backgrounds, and they're unlikely to have a voice on an independent fiscal policy board (in fact, that would be the entire point, wouldn't it? To take away their voice when it comes to aggregate fiscal policy, even though they were the most sane group of people in Keynes's time and in ours on the question of deficit spending when unemployment is high)
-Our experience with central bank independence has shown that, whatever the benefits, central banks err far to the side of fighting inflation instead of unemployment. There's no reason to think an independent fiscal policy board wouldn't do the same.
They are told to keep deficits below a certain threshold for political rather than sound economic reasons.
DeleteNow: Olli Rehn (for example) lambastes elected governments to cut budgets and implement neo-liberal orthodoxy, haranguing elected official who are not, generally, economists, and not capable of arguing with him in an economic framework.
If fiscal policy were with a council in any particular country: Olli Rehn might try to argue his points as he does today, but he would be fighting his intellectual equals. The arguments he's currently employing against elected governments could be easily parried.
The result would hopefully be that If the quality of argument was improving, policy might do likewise.
Well, to the extent our Federal Reserve could establish and fund accounts for citizens to draw against, delegation of fiscal authority exists.
ReplyDeleteThe recent decision by the Bank of England to refocusing the Funding for Lending scheme away from mortgage lending could be seen as a part of a shift toward great oversight of government policy by central banks. If central banks are taking up issues of macroprudence, this will also encompass certain areas of government policy which can be seen as a positive development considering that government do not always factor in the long term implications of their actions. For more on this argument, see http://yourneighbourhoodeconomist.blogspot.co.uk/2013/12/uk-property-market-prudence-over.html
ReplyDeleteGreat idea. The size of the deficit is something that should not be under political control, given that so few people understand its significance.
ReplyDeleteYou ask, could it happen?
ReplyDeleteNo, it couldn't.
Governments want to put off unpopular decisions until after an election. And, let's be honest, that's true of the political parties we like, not just the ones we dislike.
Delegating decisions over aggregate fiscal policy would probably force a government to implement politically damaging decisions just before the following election.
Politicians don't just want to keep their jobs. Most of them genuinely believe it's in the country's interests that their opponents are kept from power. So they wouldn't want to bring in a measure that would mean the country ended up with a worse government.
You say "when the recession is finally over there will be a clear consensus that a slow (and state contingent) reduction in net debt levels is required" and "it will have become even clearer that governments, by undertaking austerity at just the wrong time, inflicted substantial damage on their economies".
I'm very doubtful about both these statements.
While there will be a consensus among the people who comment on blogs like this, the debate between deficit hawks and deficit doves has been going since time immemorial, and the next few years won't change that. Even if the majority of macroeconomists agree with you, a majority is not a consensus.
Whether it should happen is a separate question.
ReplyDeleteNo. Such a measure would be profoundly undemocratic. As has been said before, if expert macro-economists want to run economic policy, they should form a political party, and persuade the electorate to vote for them.
Such a party would be doomed, partly because too many expert economists seem to have little understanding about how democratic politics works. But also due to a fact they don't seem to appreciate.
The crash of 2008 did considerable damage to the reputation the experts. For many of the general public, it was obvious that the availability of cheap credit to anyone, regardless of their credit history, would end in disaster. But they feel their concerns were brushed aside by the experts.
I think they have a point.
Many experts now claim they had been warning about this all along. But you can't blame the general population if they don't believe a word of this.
If experts want to rebuild their credibility, they need to start engaging seriously with the informed layman.
Unfortunately, all too often, the engagement I see is either patronising or polemical, and the debate is either in echo chambers of people who all agree with each other, or in bear pits.
Your blog is far better than most. In particular, I like the courtesy you showed when you responded to Ken Rogoff's FT piece.
But, if time permitted, it could be improved. It'd be great if you could make individual responses to those you disagree with, so that a real debate is taking place, and those who disagree feel it is worth their time to make those comments. That might lead to genuine debate.