The Reserve Bank of Australia’s independence is an illusion. The RBA exists because the Menzies government passed the Reserve Bank Act 1959 to create it, and subsequent governments, while occasionally tinkering with the operational framework, have seen no reason to abolish it.
I have long found it interesting that even relatively minor fiscal decisions of the government can be a critical political event, yet setting the price of money itself, which is arguably more important, apparently operates without political blowback. Voters appear to have little choice but to trust the gaggle of economists in Martin Place.
The RBA is a statutory body created through legislation just like many others – the ACCC, APRA, the Murray-Darling Basin Authority, to name a few. These bodies are created by government and given certain powers by government, for reasons seen fit by government. Ironically they sit outside of the political environment only by the decree of government but they very much arise from, and operate solely within, that environment.
The illusion of independence provided by these institutions is beneficial.
The illusion means that governments from anywhere on the political spectrum can depoliticise decisions made by the statutory body, enabling necessary tough decisions to be made indirectly through this ‘independent’ vehicle with greatly reduced electoral backlash.
It is a good thing that the price of money is not regurgitated as a political issue every election cycle. Indeed there is strong evidence that the appearance of depoliticised monetary policy provides valuable stability in market expectations, particularly with respect to inflation.
While regulatory authorities are generally free to make decisions under their statutory provisions, when those decisions become disagreeable to the elected government it is not difficult to intervene. We have all followed what has happened since the ‘independent’ Murray-Darling Basin Authority released their Guide to the Draft Plan?
In more subdued times, the political hand regularly takes the reins of these bodies when appointing board members and amending the governing legislation. Experience seems to suggest that board appointments are a particularly useful avenue for political influence.
A hefty volume of academic research is devoted to analysing the independence of central banking, and the benefits and costs arising from various institutional frameworks. In fact, the debate has been raging for three centuries since the creation of the Bank of England in 1694. Here is one general conclusion from this literature.
Institutions cannot be independent of governments because their creation or sufferance depends on at least a minimal consistency with government policies. The charters of the Bank of England, the Banks of the U.S., and the Federal Reserve, all controversial, included explicit requirements and limitations regarding their relations with government. They were instituted to serve the purposes of government as perceived by the interests that sought them. Some of their activities have been freed from government directions when the government desired, as when its financial need diminished or active employment policies were rejected. (here – their emphasis)
Recently the debate has been focused on the question of whether central banks can possibly be independent without assuming some degree of fiscal responsibility. The RBA began to raise interest rates in late 2009 and early 2010 while Rudd government’s massive fiscal stimulus was underway. It was a bizarre mismatch in agendas. Without coordination of monetary and fiscal policy central bank decisions can be ‘overruled’ by government’s control of the fiscal environment. This limitation has led to calls from some circles for an independent statutory body to oversee the government fiscal position to ensure coordination of fiscal and monetary decision making.
The reality that the RBA and other central banks are a fair-weather political construct is finding a mainstream audience. In Australia this is partly due to the moderately controversial removal of ANU Professor Warwick McKibbin from the RBA board this year, and partly due to Wayne Swan’s recent intervention on salary determination at the RBA. This follows an RBA decision to increase salaries for executive staff earlier this year (with Governor Glenn Stevens salary notched up $234,000 to $1million – about triple the Prime Minister’s salary).
For me it is enlightening to consider the recent RBA salary debacle in terms of regulatory capture – where the regulator begins to behave in the interests of the regulated industry, rather than the public at large – but in this instance it is a case of the regulator adopting the behaviour of the banking sector by awarding its senior staff arbitrarily large pay increases. I don’t have a problem with the salaries themselves, although the massive pay rise doesn’t project the image of reasonableness usually desired by the RBA, especially in these uncertain economic times. Yesterday’s RBA Annual Report showed a $4.9billion paper loss made by the RBA in the year to June, which required them to draw down the Reserve Bank Reserve Fund from $6.2billion to $1.2billion. This is on the back of a $.29billion loss in 2010. Of course, the strong dollar has meant the RBA’s foreign currency holdings have taken a hit, which are recovering as we speak, but they are probably wishing they didn’t sell that 167 tonnes of gold back in 1997.
Moreover, RBA Deputy Governer Ric Battelino accompanying the Commonwealth and Westpac banks on a Politico-Housing Complex world tour doesn’t assure the public that regulatory capture isn’t more of an issue for the RBA. Could you imagine Rod Simms, the new Chairman of the ACCC, appearing with BHP to tell investors how well shielded their Pilbara rail system is from competition?
Compared to some other nations, we still stack up well. In the US, for instance, the politicisation of the operations of the Federal Reserve has become blatant (the Fed always scores quite low on measures of Central Bank independence, while Australia usually scores quite high).
Top Congressional Republicans on Tuesday took the unusual step of telling the Federal Reserve to refrain from further “intervention” in the economy on the eve of the central bank’s policy decision (here).
And let’s not forget also the hand-in-glove relationships and staff revolving doors between Wall St bankers, the Federal Reserve and the US Treasury.
But with a growing debate around the RBA’s independence, as it is for all statutory entities, the big question for me is whether this presents a window of opportunity for further reform to the role of the RBA, APRA, and other the regulatory institutions.
Perhaps it is time to create a statutory body to oversee the fiscal position of the States and Federal government. Or more simply, revisit the instruments available to the RBA and APRA to work together to maintain economic stability. The government’ complete failure to address Australia’s financial architecture in an open enquiry after the GFC leaves this question an open sore.
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