This article was originally published here
Protagonists, but alone. In this overturned economic world, where everything plummets – prices (and thus inflation), interest rates, GDPs, the morale of central bankers is also falling.
The independent banker, authoritative and transparent, as described by the Monetarist school
, from the economics literature to the Maastricht Treaty, has an internal flexibility problem: he should reinvent himself. Nowadays, prime bankers represent the game changers.
Central Banks’ Balance Sheet Expansion
In the wake of the crisis, the figure of the central banker – as understood by Monetarists – independent and autonomous, becomes obsolete. The main issue is no longer inflation control, an old obsession. There is no recovery in the financial system nor is the economic cycle investing.
Central Banks gradually become the unique active crisis managers: they take on a new (never completely explained) goal, they tend to keep the whole banking system alive
, saving it from collapsing and reducing the probability of default. Central banks provide the system with liquidity for a longer time horizon (almost in a “buy to hold” attitude) and accept assets of questionable value as collateral. The ECB has become the biggest game changer.
Thus central banks are taking on a neo-Keynesian or Minskyan role of “shock absorbers.” Given the pressing fiscal constraints at an EU level, the ECB achieves centrality and control in the management of the global crisis. Its balance sheet has hugely expanded with
quantitative easing (QE) and collateral swaps operations.
This reflected the huge increase of liquidity provision and an enlarged intermediation role, with central banks acting as support to banks and financial markets.
Interbank market and more generally financial market functioning were impaired, and central banks entered the field. New operations were geared to address the malfunctioning of the monetary policy transmission mechanism.
The central bank operates through a change in the composition of assets and liabilities or through an expansion of total assets and liabilities, or a combination of both. This has been the case for all major central banks recently: they have modified the quantity and type of risk to which they are exposed.
The Fall Of Lehman Brothers’ And Its Aftermath
After the Lehman Bros collapse, the crucial aspect was the lack of confidence among banks which led to a near paralysis of mutual credit lines.
Banks were unwilling to lend money to each other for fear of not being paid back, a dramatic shift that froze credit markets and caused borrowing rates for banks and businesses to skyrocket.
The collapse of Lehman Brothers was so
shocking, it triggered a financial tsunami of such magnitude that it
was compared to the Great Depression.
Going beyond responsibilities about cross-border and shadow banking, central banks decided to intervene on the toxic nature of assets on balance sheets to reset the confidence, pursuing exceptional goals. The main unconventional operations put in place were QE, long-term refinancing operations and outright monetary transactions.
A Central Bank-Led Capitalism?
That equidistant and impartial ECB independence (self-proclaimed ten years ago) seems to turn into an inclination to coordinate the whole EU economic policy: a take-all bank.
The literature has also created a new definition of the economic system: a central bank-led capitalism
. In a recent article
, Alan M. Taylor, an economics professor at the University of California, warned about future central banks’ independence:
“A chief criticism of central banks is that the more they do to stave off deflation – with tools such as negative interest rates quantitative easing – and reinvigorate their economies, the closer they move to fiscal policy. That could lead to a <rapid evolution, or perhaps revolution> of central bank mandates.” tweet
Several times the ECB President, Mario Draghi, has warned about the solitude of the central banker: the ECB did and will do “whatever it takes
” but this is not sufficient. A continuous expansionary monetary policy without support from governments and their tax policies will not bring about the end of the crisis. In conclusion, no man is an island (John Donne
dixit) and the prime bankers need the collaboration of governments.