§ 5.13 p.m.
§ Lord Radice rose to move, That this House takes note of the report of the European Union Committee on Is the European Central Bank Working? (42nd Report, Session 2002–03, HL Paper 170).
§ The noble Lord said: My Lords, noble Lords will no doubt remember that the Sub-Committee on Economic and Financial Affairs reported on the stability and growth pact in March last year. The House held a debate on that report last June. Our report on the European Central Bank, which was published at the end of last October, just before Jean-Claude Trichet took up his presidency, which we are debating today, is a companion volume to the one on the stability and growth pact.
A few months before the ECB was established on 1 June 1998, my committee conducted an inquiry into the feasibility of such a bank. Now, five years later, it is a good time to review the workings of the ECB. The report does not consider whether, or when, the UK should join the euro. My views on that subject are well known. Rather, it is an evaluation of the ECB as a central bank looked at from an overall European perspective. In our inquiry, we held eight public hearings and also received written evidence. I thank all our witnesses, our committee staff, especially our Clerk, and my distinguished colleagues for their participation and commitment.
The first point of the main conclusions of our report is that our overall assessment of the ECB's monetary policy is positive. Noble Lords will remember that the primary objective of the ECB is to maintain price stability. Without prejudice to that objective, the bank has an obligation to support the overall economic 48 policies of the EU, including a high level of employment and sustainable, non-inflationary growth. Our witnesses all agreed that the ECB had achieved its primary objective of delivering an inflation level of just above 2 per cent. In that sense, we can say that the ECB is working. It may be a young institution, but it has already built up a high level of credibility on the inflation front.
Does the EC Treaty give the ECB the right remit? Our witnesses pointed out that the EC Treaty objectives for the ECB are little different from the hierarchy of objectives set out in the Bank of England Act 1998, with primacy given to price stability. The Federal Reserve has a much wider remit. However, in practice, as Mr Paul Volcker, chairman of the Federal Reserve between 1979 and 1989, said to us,
the principal function of the Central Bank has to be concerned with stability".
It would be fair to say that whatever the differences in mandate between the ECB, the Bank of England and the Federal Reserve, all operate in a similar fashion. Our witnesses agreed that it was best for the ECB to retain a single objective—price stability—otherwise it creates an illusion of what monetary policy can achieve.
David Walton of Goldman Sachs said to us,
monetary policy cannot increase the long-term growth of the economy and has no lasting effect on the equilibrium rate of employment".
In the real world, the ECB has paid attention to the secondary objectives of growth and employment. As Professor Buiter told us,
the fact that inflation has been above target in the euro area for years now is not consistent with the view that monetary policy has been too tight".
Indeed, the UK Government suggested to us that monetary policy for the euro area has been a little bit looser than it would have been under the Bundesbank. In a way, that is part of the argument as far as the German case is concerned.
Sir Samuel Brittan was especially concerned that the ECB should not be made the scapegoat for the sluggish euro area growth rate, which he, like our other witnesses, believed was mostly related to structural problems in the European economy. The committee's conclusion was that it was right that price stability should continue to be the primary objective of the ECB, though without prejudice to that objective the ECB should also support growth and employment.
Despite the successes in delivering price stability, we believe that some useful reforms could greatly assist in the working of the ECB and make it more effective. The ECB has already shown itself to be flexible. Following a review of its monetary policy strategy, it announced that its commitment to hold inflation below 2 per cent did not mean that it intended to drive inflation ever lower; rather, its aim was to maintain inflation levels close to 2 per cent over the medium term. The bank did not intend to drive the European economy into deflation. The second change that it announced was that it was downgrading the second 49 monetary growth pillar of its monetary policy strategy—some might say, "Not before time"—as it had not proved to be a particularly effective indicator.
The committee's conclusion was that the ECB should go further and explicitly adopt an inflation target expressed as a symmetrical range around a central figure, on the lines of the British model. Although the committee accepts that, in practice, the ECB has pursued its price stability objective with flexibility, a symmetrical inflation target would be clearer, thus helping transparency, and would also address the criticism made by a number of people—as I have said, we believe it to be unfounded—that the bank does not take sufficient account of deflationary risks.
The Select Committee has another proposal to improve transparency and accountability. I should say that, from the evidence that was presented to us, it is clear that the ECB is much more transparent and accountable than is sometimes supposed. An academic survey of six central banks placed the ECB second only to the Bank of England in the ranking. The ECB is accountable to the European Parliament, and it submits an annual report to the Parliament, as well as to the Council and the Commission. The president and other members of the ECB can be asked to appear before the European Parliament's Economic and Monetary Affairs Committee. In practice, the president now appears four times a year before that committee. In addition, there are the ECB's monthly reports, which are extremely useful, and there is the president's press conference after meetings of the governing council of the ECB.
We think, however, that the ECB could go further. The records of deliberative meetings of the governing council should be published, though without attribution to individuals or voting records. That would help transparency and help the markets and the general public to understand some of the arguments without, at the same time, exposing individual members of the governing council to national pressures. It is important that that does not happen.
I turn to the governing structure of the European Central Bank. We are concerned that the reforms agreed last year to deal with enlargement, which are based on a complex rotating model, will, in the end, prove unworkable. I do not intend to describe them now, although I recommend a fiendishly clever diagram on page 40 of our report, which gives a good idea of what is intended. We recommend, instead of the proposal, that, in time, the ECB should have a small monetary policy council on the Bank of England model, composed of six members of the ECB executive and up to six independent experts. That small monetary policy council would operate under the auspices of a much larger governing council, on which all the member states' governors of central banks would sit. A monetary policy council on those lines would run monetary policy more effectively than the cumbersome and complex proposals that have been made to deal with enlargement.
50 The big appreciation of the euro against the dollar has thrown into sharp relief the question of exchange rate policy. As noble Lords will know, exchange rates fall within the competence of the Council, rather than the European Central Bank. It is obvious that movements in the exchange rate can affect monetary policy considerably, so it is essential that the ECB takes exchange rate movements into consideration, as indeed it does. The committee believes that it would be a mistake for the euro area to adopt an exchange rate target. It would almost certainly be ineffective and would probably lead to an almighty row with the United States. However, that should not rule out the ECB, Finance Ministers or both having views about the exchange rate and occasionally agreeing on interventions in the currency markets, in order to dampen down excessive swings.
That brings me to the issue of co-ordination between fiscal and monetary policy. Inside the EU, co-ordination of economic policy is complicated—indeed, it is very difficult. There is a single monetary authority, on the one hand, and multiple fiscal authorities, on the other. Yet, co-ordination is required to deal with tricky issues such as the exchange rate and with disputes over the stability and growth pact, as well as to ensure that more general and important issues such as monetary and fiscal policy complement each other. We propose that arrangements for the communication and exchange of information between the ECB and the fiscal authorities could be strengthened, if the role of the euro group were formalised, thus allowing its representative or chairman to communicate more effectively—probably on an informal basis—with the president of the ECB.
I have come to the end of what I wish to say. I believe that it is right that we continue to assess the development of the European Central Bank. Even while we stay out, the operations of the ECB affect our economy, given the fact that the euro area is our largest single market. If, as I hope, we decide to join, it is essential that the ECB works as effectively as possible. We are entitled to have views about what happens to the ECB. It is in that spirit that I present the report to the House. I look forward to hearing what the Government have to say. Their reply to us, although interesting, was somewhat opaque. I look forward to hearing the views of noble Lords on an institution that, whatever happens, will remain vital to the future of our country.
Moved, That this House takes note of the report of the European Union Committee on Is the European Central Bank Working? (42nd Report, Session 2002–03, HL Paper 170).—(Lord Radice.)
§ 5.28 p.m.
§ Lord Barnett
My Lords, I thank my noble friend Lord Radice for his report and for his speech. There is not a lot in them to disagree with. My noble friend is, as always, modest and moderate in his views. When any chairman is presenting a report by a Select 51 Committee on the issue, it is difficult, if he wants a unanimous report, to have anything other than a modest and moderate one.
The Government's response is even more modest. They say that they welcome the report and say that it will be an important contribution to the debate. I am not so sure about that. It is difficult to get any kind of serious debate on Europe in this House, in the other place or in the press—or anywhere else, for that matter. It virtually is impossible. Indeed, in this debate, I am happy to see that I am likely to agree with most of the contributors. Those who disagree seem to have opted out for another day when they can have a debate on their own. That being the case, we who are pro-euro and pro-Europe should be able to be constructively critical of the parts of the European Union's policies that we see not working correctly. To some extent, that certainly applies to the European Central Bank.
I want to deal with a few points. First, I turn to paragraphs 241 and 242 of the report where the committee asks the Government for their views on "prudential supervision". The first line of the Government's response relates to the five economic tests. Most of us who are concerned and care about Europe and about the possibility of joining the euro-zone—it is to be hoped in the not too distant future—will know that the five economic tests are nonsense, which, I believe, most sensible people within government circles will know. So that certainly is not a serious response to the report.
When the Minister replies, perhaps he could tell us about the central test of sustainable convergence and how we will ever get it, and, therefore, how we will ever join the euro-zone, which I hope remains the objective of the Government. How they can ensure sustainability both on that issue and on almost any other, I should be delighted to hear, as I am sure would the House.
In their response to the report, the Government, under the heading of "Financial Stability and Prudential Supervision", answer paragraphs 241 and 242. They state:As stated in the EMU study Policy frameworks in the UK and EMU (paragraph 3.61): … a clearer assertion of the position on official support operations in the euro area would be helpful to ensure that the euro area avoids creating ambiguity".I am always happy to support the removal of ambiguity, but I should be glad to hear from the Minister how he has in mind to do that.
My second point is, to me, the central point of the report and, indeed, the whole issue; that is, the primary objective of the European Central Bank. We are told that "price stability" is the primary objective, again stated in paragraph 243. Paragraph 244 states that the European Central Bank has to consider the second objective "without prejudice" to the first objective. That is similar to the Bank of England and the Monetary Policy Committee, although the wording is slightly different. Under the Monetary Policy Committee, there are those famous three words, "Subject to that". In other words, subject to the first 52 stability question, only then must it consider growth and employment. I note that some of the witnesses, and many others, are not too concerned that recently, within the euro-zone and within Europe, the average growth rate has been so poor.
One is bound to wonder to what extent the European Central Bank considers the second objective of growth and employment, in the same way that I often wonder what weight the Bank of England Monetary Policy Committee gives to the second objective of economic growth and employment. I am bound to say that, over the years, my impression of the extent to which the European Central Bank gives serious consideration to growth and employment is "not a lot". One is bound to conclude that the primary objective, judging from everything that has happened over the years, as with the Bank of England, almost completely supersedes its consideration of growth and employment.
The response from the Government states that, overall, the European Central Bank is pragmatic, but that it could do better. I certainly accept the pragmatic point. I certainly accept that it could do better. In my view, it could do very much better. But should we not be concerned—the report does not express this to the degree that I would have preferred—to what extent the European Central Bank really is acting, if at all, on that second objective? That must be of concern to all of us and, certainly, to those like me who want us to join the euro-zone as soon as possible. The committee states that economic success of the euro-zone is beyond the narrow definition of the stability of inflation, with which I very much agree.
I now briefly turn to the point made by my noble friend Lord Radice on the stability and growth pact, referred to in paragraph 271. As my noble friend pointed out, it is a short paragraph because there have been previous occasions on which to debate the matter. Paragraph 271 states:The Stability and Growth Pact can help Member States".It can; it can also do great damage and harm to them as well, as we have seen. That is what I mean when I refer to the report and my noble friend as being very moderate on these occasions. The plain fact is that the pact is almost as much nonsense as the five economic tests. The pact works only because it is not allowed to be strictly enforced. I make no bones about it; I do not want to see it strictly enforced. At a time like now, to see it strictly enforced would be mad. When we need more economic growth within Europe, strictly to enforce the terms, as originally envisaged, of the growth and stability pact would not be sensible.
§ Lord Radice
My Lords, I thank my noble friend for giving way. To be fair to the committee, the whole point of its previous report was that the pact should be interpreted flexibly, particularly at a time of depression or deflation.
§ Lord Barnett
My Lords, as a former chairman of that committee, I am delighted to recognise the point made by my noble friend. But, as I say, this would be the wrong time to cut debt within the euro-zone.
53 Again, the Government response is very interesting. We are told that they support,a prudent interpretation of the Pact".We would all support prudent interpretations of almost anything. What exactly does that mean?
At the Economic Affairs Committee only last Wednesday, we had before us a very impressive group of senior Treasury officials. I particularly emphasise the impressiveness of the main Treasury official. I asked him for the Government's view on whether they would like to see the European Union implement the Chancellor's golden rules. The answer was very interesting. Again, I shall he interested to hear whether the Minister agrees. The answer was "yes". He added a "but". In fairness, it is worth saying why he added a "but". He said that it is more difficult, within 12 fiscal authorities, to have the kind of system that we have.
He went on to make a number of other points. The general point he made was that the growth and stability pact—he was involved in the negotiation of it in 1996–97 and lived with it and watched it evolve—had changed a tremendous amount; it had not changed overtly and there had been no big statements that it had changed in another way. But we know that it has changed. Of course it has changed and, sensibly, in its implementation.
He went on to show why he said "but" after his "yes" by saying:I would say it recognises the cycle a lot more than it did and whereas if you said 'cyclically adjusted deficit' in 1996 you were seen as a heretic, that is now accepted".I should add that those quotations are from a report of a Select Committee that sat only last week, so it has not been corrected or published. I was there, and I doubt whether anyone would disagree with what I have read out.
That is a senior and impressive Treasury official's view of the Government's policy. Knowing Treasury officials as I do, I should be astonished if he said it without knowing what he was saying or being very careful in his choice of language. I certainly hope that my noble friend will confirm that that is indeed the Government's—and the Chancellor's—view; after all, it is his golden rule, so why should he not want to see the European Union, or the euro-zone, accept his own golden rule rather than the nonsensical growth and stability pact that will not work as it stands? I look forward to hearing my noble friend's response.
§ 5.41 p.m.
§ Lord Brittan of Spennithorne
My Lords, I add my congratulations to the noble Lord, Lord Radice, and his colleagues, on an admirable report. I say so not because it is the convention to do so, but because it is an excellent analysis and makes excellent recommendations. Indeed, it is in line with a series of reports from committees of this House that led Jacques Delors to say to me informally that he thought such reports represented the most serious critique of European policy emanating from any legislature in the European Union.
54 Few people would disagree that it would he fair to characterise the economic situation in the euro-zone as one with a high degree of price stability but inadequate growth and inadequate structural reform. As price stability is the stated primary objective of the European Central Bank, it is not surprising that the report commends the European Central Bank for achieving its desired objective and rapidly building up a high level of credibility. It is worth pointing out that what the European Central Bank does is not significantly different from the Federal Reserve or the Bank of England. As the report says, it just does it a bit more slowly and cautiously.
I would add, quoting my brother, Samuel Brittan, that the European Central Bank is also to be commended for so successfully achieving the formidable administrative and technical task of introducing the euro and handling what could have been an awkward transitional phase. I would add to that its successful launch of notes and coins. I remind the House that many Euro-sceptics gleefully predicted that each and every one of those tasks would end in disaster, but that did not happen.
The report comes to other very important conclusions. The first, which has been referred to by the noble Lord, Lord Radice, is that it would be a mistake for the European Central Bank to have an exchange rate target. I wholly agree with that for two reasons. First, it would be extremely difficult to make that work in practice, without international co-operation. I do not know whether the results would be as draconian as suggested by the noble Lord, but one could say simply that it would fail because the United States Government, in their present policy, which is one that has been followed over many years, would be extremely unlikely to co-operate, or give the co-operation necessary to achieve any such objective.
Secondly, an exchange rate target would be a mistake because, as those of us who have been in the Treasury have readily observed, there cannot be two targets. There cannot be both an inflation target and an exchange rate target because they may clash. There must be only one, otherwise they may fall between the stools.
The second important point—here I differ slightly modestly from the noble Lord, Lord Barnett—is that the report rejects the frequent complaint that greater prominence should be given to the secondary objective of supporting growth and employment, not because those objectives are not at least as important as price stability—they are possibly more important—but because of the severe limit on what monetary policy can do to achieve that.
I shall quote Mr Duisenberg, the former president of the ECB, who said:Theoretical and empirical evidence clearly confirm that there is no long-term trade off between price stability and economic growth. Trying to use monetary policy to fine-tune economic activity or to gear it above a sustainable level will, in the long run. simply lead to rising inflation—not to faster economic growth".55 Professor Von Hagen, speaking about monetary policy, said:It can support full employment but to use monetary policy systematically to reach full employment will always undermine price stability".Professor Buiter said:Monetary policy cannot increase the long-term growth of the economy and has no lasting effect on the equilibrium rate of employment. It has important effects at cyclical frequencies but that is it".I would add that the same might be said about what short-term fiscal policy can do. In 1976, the noble Lord, Lord Callaghan, said, extremely vividly, that one could not inflate one's way into prosperity and sustainable growth. Successive governments would have been wise to retain that lesson.
As has been pointed out, it is not the case that the ECB has pursued the aim of price stability in a narrow way. The report states that inflation is actually slightly above what would be expected from the rigid pursuit of its stated policy. Indeed, as has been said, the policy of the ECB has been a bit looser than it would have been under the Bundesbank.
Taking that view of the situation, which I share with the Committee, it is natural that the recommendations made are not devastatingly radical, but they are still important, and I hope that they will be heeded. I shall not join in the criticisms of the Government for their modest response to the report, but shall focus on supporting it.
On the question of a symmetrical inflation target, witnesses showed that the ECB has gone a long way towards implementing it, at least by implication. That is evident from the clarifying statement issued by the bank on 8 May last year. It is not a revolution formally to adopt a symmetrical inflation target; it would be beneficial precisely for the reasons given in the report.
The proposal to publish the records of meetings, spelling out the arguments used but not attributed to individuals, is a sensible recommendation that should be followed. It is a moderate recommendation in the best sense of the word, because a more extreme one would be to publish the names of the individuals and their votes. I think that the European Central Bank is a different animal from the Federal Reserve or the Bank of England precisely because it accommodates so many different countries. To expose its members to national pressures—certainly at this stage of its devolution—would be a mistake. I think that the recommendation is balanced and sensible.
A recommendation has also been made to change the treaty so that decisions can be taken by a small monetary policy council. I believe that is desirable in principle and that it should happen at some point. If the Inter-Governmental Conference dealing with the proposed constitution of the European Union is fully reopened and all aspects of what Giscard d'Estaing has proposed are up for grabs, then certainly this should be considered and done. However, if there is any chance of a quick resolution to the impasse on voting rights so that the thing could be agreed leaving the rest 56 untouched, I would not favour stopping the constitution going through by embarking on the necessarily controversial negotiations needed to agree the treaty change to create a small monetary policy council.
I should like to draw one or two more vivid and immediate conclusions from the report. It is clear that the ECB does and will take account of the exchange rate in assessing the degree of inflationary pressure in the euro-zone and, if the exchange rate rises enough, that will indicate that inflationary pressure has eased and interest rates will be lowered. It is also clear that the decisions of the European Central Bank are materially affected by the fiscal policy pursued in member states. It is right that that fiscal policy cannot be effectively co-ordinated with the ECB and it has explained why that should not be attempted. But if member states pursue inappropriately lax fiscal policies, that too is something which the ECB is bound to take into account when assessing what needs to be done in determining monetary policy.
The important point that comes out in a low-key way, but which is repeated again and again in my reading of the report, is that the ECB cannot be expected to carry all the weight of pursuing an appropriate and complete economic policy for the euro-zone. There is a severe limit to what monetary policy alone can do. It is the responsibility of the member states and not the European Central Bank, first, to carry out structural reforms, the lack of which is the main cause of the weakness of the European economy today and, secondly, to pursue appropriate fiscal policies. That is why the report draws attention, admittedly in a low-key way, to the value and importance of the stability and growth pact.
I do not think any more than does the noble Lord, Lord Barnett, that the pact in its present form is perfect, but to the extent that it is not, it should be debated, discussed and reformed, not flagrantly flouted by France and Germany. Those are countries which regard themselves as high priests of European integration and the motors of future advance. Their shameless and, in the case of France, brazen defiance of what they themselves created has done more to discredit the European cause than any other single act of any European Union member state in the whole history of the Union.
If that seems an exaggerated claim, one has only to look at what happened in the Swedish referendum on joining the euro. It was clear that the flouting of the pact was one of the major causes of that vote going the way it did. Above all, what is so mischievous about flouting rather than amending the pact is that that gives the impression that there is one rule for the small countries and another for the large—or rather, no rule for the large countries. In doing that, immense damage has been done to the euro-zone and, beyond the question of the euro, to the European cause.
I believe it is now urgent and necessary to put that right. The issue of the stability pact must be dealt with in a proper and responsible way. But, like so many other things hovering around this debate, that too is 57 well beyond anything the European Central Bank itself can be expected to achieve, although it has rightly made very clear its views on this issue as well.
§ 5.54 p.m.
§ Lord Taverne
My Lords, since I agree with the remarks on the report made by the committee's distinguished chairman, I shall not repeat many of his points. The report makes sensible comments and proposes reasonable recommendations. That is not surprising because we had a very good chairman and, I would add, an exceptionally able Clerk.
I want to make three points, the first of which concerns the success of the European Central Bank. People have forgotten the problems it faced and that it is an easy target. Many financial journalists make cheap comments at the expense of the ECB, saying that the ECB is responsible for low growth in Europe because it has kept interest rates far too high. The noble Lord, Lord Radice, dealt with that in part by pointing out that the bank has not been obsessed with inflation, rather it has allowed inflation to rise slightly above its target. And when considering the history of the past decade or more, one cannot blame the high interest rates forced on Germany in a one-size-fits-all interest rate policy on the ECB when Germany has had historically low interest rates since the bank has been in charge. All our witnesses disagreed with the view that the ECB had failed in its task. They formed a distinguished group and they praised it. The bank established its credibility when that was not necessarily an easy thing to do.
My second point relates to what I think is one of our most important recommendations on the future governance of the ECB. Many of the other recommendations are sensible but are what I would regard as rather marginal, such as having a symmetrical inflation target. In practice, that is more or less what the ECB has been pursuing, certainly since it modified the explanation of what it meant by keeping inflation below 2 per cent. The remarks of the noble Lord, Lord Radice, show that in fact everyone agrees that the manner in which the ECB has carried out its tasks has been very similar to that of the Bank of England and the Federal Reserve in the United States.
However, the current proposals for the future governance of the ECB are worrying; that is, the voting system. They are likely to hamper effective decision-making. Questions about voting are extremely difficult, as we have seen in the IGC. I understand the proposals; they are simpler and far preferable to those put forward at Nice, and they are being strongly championed by France and Germany. However, I understand too the opposition of Poland and Spain, which are afraid to give two countries plus one other what would be, in effect, a power of veto. But I am rather disturbed by the attitude of the United Kingdom which was to say simply, "This is not our problem. We are not in the firing line. Our problems are not being discussed and so, hooray, we don't have to take part".
58 The trouble with present discussions in the European Union is that no one takes any view other than that of national self-interest. We have lost the sense of vision about Europe that used to prevail. If everyone rigidly pursues their own national self-interest, then the European Union will not work well. We have to face down chauvinist tendencies in the press and lift our eyes to a somewhat further horizon.
My third comment relates to the wider context of the report. As I have already indicated, the European Union is going through a bad patch. It has low economic growth, it suffers from a certain amount of sclerosis, it is failing to meet the Lisbon objectives, it has failed to produce structural reforms which are a major, but not sole, element in economic growth, and there is widespread disunity. In a sense I am rather relieved that we are not holding a referendum on Europe now because these are not favourable circumstances for it. Nothing much good can be said about the Union at this time.
But that has to be seen in context. We have had bad patches before. Looking back over the past 40 years, one can see an amazing see-saw in the relative success of the European Union and the United States. I remember that, in the 1960s, we had Le Défi Américain and everyone was asking how Europe could ever compete with the United States. It would be a terrible problem to compete with them.
Then, in the 1970s, the boot was on the other foot. There was a completely different picture. I remember Roy Jenkins making a speech in which he said, "Westward look, the land is bleak". It was the time of Nixon. The United States was facing a major crisis. One forgets that there was a long period when the Americans had lost their self-confidence, and thought that they would be swamped and completely overwhelmed by the Japanese. Now, in the past 10 years, the Americans have felt that they have the complete answer to all the problems of the world, and that the American business model is the only possible model for economic success.
Europe has great strengths. Despite the fast growth of productivity in the United States over the past decade, "productivity for all"—which in the end is the true test of productivity—is higher in France, Germany, the Netherlands and one or two other European states than it is in the United States. The only reason why GDP per head is higher in the United States is that Europe has a sensible and civilised approach, and does not believe that people should work and work only, work longer hours and have practically no holidays.
Thanks to the work of the ECB, European inflation looks stable for the foreseeable future. Can anyone say that with any confidence about the United States? I shall not predict the future, but it is possible that the United States will face a period of high inflation because of its high, multiple deficits. The first decade of this century may not be the decade of economic growth for the United States: it could, again, be the decade of Europe. It is certainly more likely to be the decade of Asia.
59 There is sclerosis of the European Union, but it also has strengths, one of which is that it takes a longer-term view than the American business model, which is obsessed with a short-term increase in shareholder value.
A pertinent comparison has been made between Airbus and Boeing. Boeing was a company that was primarily interested in making aeroplanes, and was not terribly interested in profits. It made profits, but that was a by-product. One of the executives was horrified when the 747 was produced, because the company had not done any calculation on the return on capital that was expected from the new aeroplane. It was an enormous success.
Boeing is now obsessed with creating shareholder value, and relative to Airbus, its value has gone down. The reason is that Airbus takes the long-term view: it is primarily interested in making aeroplanes. Profit is not unimportant, but the European business model—the social model of the Continent—takes various forms. It is different in the Netherlands, in France and in Germany. The European social model has certain strengths, and it leads to a greater degree of investment and a longer-term view.
In the long term, Europe may be going through a bad patch which is temporary. We have seen these bad patches before. The single market came as a complete surprise, and turned out to be a tremendous incentive for the expansion of Europe. It is not a good time now. That is the background against which we have to judge the operation of the European Central Bank. In those circumstances, its operation has been an astonishing success.
§ 6.3 p.m.
§ Lord St John of Bletso
My Lords, it has been a pleasure to serve under the able chairmanship of the noble Lord, Lord Radice, with his vast experience from the other place. I would also like to thank our very able Clerk, Dr Richard McLean.
I was fortunate to have been part of the sub-committee in 1998, which examined how and whether the bank would work, but now, five years on, we are examining whether it is working. I endorse the sentiments of the noble Lord, Lord Radice, that the ECB has worked well so far, and that a lot of the criticism of the bank is unjustified. In drawing comparisons between the effectiveness of the ECB and the Bank of England, one tends to lose perspective of the fact that the UK has been a monetary union since 1707, whilst the ECB has only been effectively in existence since 1999. In that short time, it is noteworthy how quickly the bank has achieved not only credibility, but also its authority and effectiveness in delivering price stability.
As we recommend in the report, we hope and expect that the governing council will display greater transparency, particularly in the publication of regular records of its meetings, giving the reasoning and arguments behind its monetary policy decisions without being attributed. In this regard, I endorse the 60 recommendation that arrangements of communication between the ECB and Eurogroup need to be strengthened.
However, the challenge will become all the more apparent with enlargement, with the governing council of the bank likely to increase its membership from 18 to 33. I share the concerns of the noble Lord, Lord Taverne, that the unwieldy size of the enlarged governing council will complicate the process of setting interest rates and could potentially lead to rifts between the large and smaller member countries.
I support the recommendation in paragraph 260, that the ECB should eventually have a small monetary policy council, composed of six members of the ECB executive board and up to six independent external experts. Clearly, there will be political impetus for there to be some national input into the running of the ECB, but it makes sense for the proposed smaller monetary policy council to operate under the oversight of the current governing council, where the central banks of all the member states of the euro-area are represented.
We face a radically different economic climate today from that which existed when we prepared the report in 1988. Whereas interest rates then were at 3 per cent across the euro-zone and concerns about inflationary pressures resulted in interest rates rising as high as 4.75 per cent in October 2000, now interest rates in the euro-zone are at 2 per cent, and there are some concerns of deflationary pressures, particularly in Germany.
Another concern I have about the ECB is that it appears to be too fixated with the threat of inflation, and not sufficiently cognisant of the need to boost growth. As several of our witnesses told us, reducing interest rates in the euro-zone below 2 per cent would not necessarily have the desired effect of promoting growth, as euro-zone countries have comparatively low debt levels.
The ECB does not have the same degree of control over demand in the euro-zone as the Bank of England has over demand in the UK. The UK is a far more interest rate-sensitive economy than the rest of Europe. A lot of the problems in Europe cannot be blamed on monetary policy, but are more due to structural problems and regulatory red tape and labour laws, which are the remit of national governments.
An issue that I took up with our witnesses was the lack of a lender of last resort in the euro-zone, particularly in the event of a massive financial crisis. Financial supervision remains the preserve of individual countries. While I support the recent establishment of a Financial Services Committee to advise ECOFIN, I do not believe that that is enough. I agree with the Financial Secretary, Ruth Kelly, that there needs to be more clarity in the arrangements as to who the lender of last resort in the euro-zone should be.
The ECB has a clear vested interest in effectively performing its mandate for there to be fiscal stability in the euro-zone. Since the collapse of the stability and 61 growth pact last year, which allowed Germany and France to run excessive deficits, it invariably will result in euro-zone members running looser fiscal policies. If one shares the view of the noble Lord, Lord Barnett, that will help to promote growth, but could risk the euro-zone's net debt position becoming unsustainable in the long term. It may be argued that the euro-zone is in danger of ending up in a bad policy mix, with monetary policy being too tight and fiscal policy being too loose.
When the stability and growth pact collapsed last year, the ECB came under some harsh criticism by several of the finance ministers of the euro-zone who claimed that the bank was acting ultra vires in its criticism of the breach of the pact and that the bank's remit was purely and simply to manage the currency and to maximise and preserve price stability.
During Questions today, the Minister was asked what action Her Majesty's Government are likely to take to ensure that member countries such as France and Germany—France was particularly mentioned today—play by the rules. Perhaps I may again press the Minister for a response on this issue when he replies to the debate.
I share the sentiments of businesses, politicians and bankers that much more needs to be done to ensure greater stability in the foreign exchange markets. After the collapse of the dollar by more than 20 per cent against the euro last year, I hope that this issue will be covered in next month's meeting of the group of seven industrialised nations. While the surging euro has reduced raw material prices and inflationary pressures, in many ways it has undermined Europe's economic recovery.
I find the comments of John Snow, the US Treasury Secretary, in support of a strong dollar hard to believe. With rising stock market prices in the US and falling long-term interest rates, the US Treasury appears to be doing little to halt the decline of its currency.
In conclusion, I obviously wholeheartedly support the report. I had hoped that the Government, in their formal response, would have been more specific in responding to the many recommendations outlined in the report.
I end on the same note with which I started. Is the ECB working? Yes. Is it fulfilling its mandate? Yes. Will the ECB continue to perform in a successful manner and could it be improved? Yes. European enlargement will be a major test for the ECB. I hope that our recommendations in the report will be seriously considered. I am a firm believer in the principle of KISS—"Keep it simple, stupid".
§ 6.12 p.m.
§ Lord Watson of Richmond
My Lords, I add my congratulations to the committee on its report and to the noble Lord, Lord Radice, who has for so long been an exemplar of good sense on Europe.
As has been stated already, the report's broad findings are positive. The ECB is one of the most influential financial institutions in the world. It is endowed with extraordinary independence, which is 62 hardly surprising as the Bundesbank was one of its midwives. It has performed well given its mandate and it has built up a high level of credibility by delivering on its prime objective of price stability.
However, it now faces the need to deal with the dangers of deflation and stagflation and the enlargement of the Union. The committee, as I understand it, broadly recommends three changes: adopting a symmetrical inflation target; and two steps which would bring the bank closer, without compromising its independence, to the real world—or at least the political world—that is, a small monetary council under the general council and enhanced dialogue between the ECB and the Eurogroup. All of this, of course, to sparkle with greater transparency. In other words, it should be a more proactive, more transparent ECB, with more political savvy, under the leadership of Jean-Claude Trichet.
It would seem that all this is welcomed by Her Majesty's Government in their broad but rather bland endorsement that this is,an important contribution to the debate".However, the Government do not specify which debate and whether or not we are a part of it. I shall return to that point in a moment. Suffice to say that to some of us the debate on the euro, of which the ECB is a part, becomes more surreal with every passing year.
In that regard, perhaps I may briefly share an experience with your Lordships. Some months ago I caught a cab at Hyde Park and asked the cab driver to bring me to the Peers' entrance. That is always a dangerous beginning to any conversation, and indeed it proved to be the case. The taxi driver had on a radio programme dealing with the euro. He said to me, in slightly menacing terms, "Would you like to hear the programme or would you like my views on the euro?". I calculated that the journey would take about six minutes and that it was probably safer to hear his views. And I did. Britain joining the euro would of course be the introduction of the Fourth Reich; it would be the reversal of the Battle of Britain; it would lead to complete catastrophe and so on. The picture got gloomier and gloomier until, thank goodness, we arrived at the Peers' entrance. As I paid the cab driver, in sterling, I said to him, "Well, my friend, if it's really going to be as bad as you think, perhaps you should emigrate". He looked at me in some surprise and said, "Right, my Lord, I am. I'm off to Spain". It is a surreal debate in many ways.
The ECB and its role in the fortunes of the euro are not on everyone's lips—and, for the most part, they are not on those of the Government either. However, there are two key contextual developments which require some re-examination of the ECB, the euro-zone and our non-participation.
First, there is the continuing fall of inflation in the euro-zone. Core inflation—which excludes energy, food, alcohol and tobacco—is at approximately 1.6 and could fall to 1.5 by March this year. This is comfortably below the ECB's projected 1.8 for 2004. The main reason for this is the rise in the value of the euro. Secondly, this rise, on the hack of the dollar's 63 fall, is in itself an extraordinary phenomenon. The fall in euro-zone inflation and the linked rise in the euro therefore clearly call for some action.
Let us remind ourselves of the figures on the rise in the value of the euro. It was up 25 per cent against the dollar in 2003, last year, and up 40 per cent on 2002.
Incidentally, one of the reasons for this surreal dimension to so much of the debate on the euro and the ECB—certainly as seen from my side of the argument as one who would like us to join—is that when the euro was weak, it was derided for being so. Now that it is strong, that in itself is perceived as weakness. When it was established it was indeed, as the noble Lord, Lord Brittan, said, expected to fail. Now that it has not failed, it is berated as the cause of the euro-zone's uncompetitiveness.
But my purpose today in the debate is not to argue for a fair hearing for the euro; it is to support the recommendations in the report and to raise one fundamental question for the Government. As I said, the fall in the euro-zone inflation rate and the linked rise in the value of the euro clearly call for more interest rate flexibility and, to some extent, the ECB has demonstrated its approach on that. In paragraph 251 the report rejects, interestingly and trenchantly, both the charge that the ECB is insufficiently focused on growth and unemployment and the charge that it is insufficiently vigilant in fighting deflation. It finds both charges unfounded.
In some ways this is a generous judgment. ECB inflexibility on rates has arguably contributed to Franco-German naughtiness on the growth and stability pact. I shall treasure for a long time the description of the noble Lord, Lord Brittan, of the French aspect of naughtiness in this regard as being "brazen". Certainly, that inflexibility has been used as an excuse. Meanwhile, a symmetrical inflation target would signal, perhaps, that the ECB is as alert to the risks of deflation as to those of inflation.
Secondly, it will help if the ECB is closer to the political world through transparency, better communications and closer liaison between the Eurogroup and the bank. But in all the brouhaha about having a more proactive, politically sensitive and market sensitive ECB, let us not lose perspective. It is easy to misread and exaggerate the impact of the rise of the euro's value on economic performance within the euro-zone. The euro-zone is already a huge single currency internal market.
I read the other day figures relating to Germany's Engineering Federation, which has 3,000 members. Its success or failure literally turns on exports. Seventy per cent of all that it makes is exported. Now, well over half the total exports of German engineering companies go to and within the euro-zone. They are thus unaffected by the value of the rise in the euro except that there is a certain cost benefit to them in manufacturing and raw material terms from the high euro.
64 Thirdly, the high euro is of course the flip side of the weak dollar. Why is the dollar so weak? The noble Lord, Lord Lamont, commented the other day that the US economic recovery was the best one that money could buy. That seems an interesting way of putting it. The United States Government and authorities are doing nothing to halt the rise in the dollar. It is clear that in a presidential election year they are unlikely and reluctant to do so. But if pressure on the rise of the dollar is to be brought on the United States with any chance of success, it has to be brought collectively by the European Union. That is the lesson of the WTO and all the trade negotiations between the two sides of the Atlantic.
That brings me to my question to the Government. I was struck by two exchanges in the committee's examination of Ruth Kelly, a member of the other place and Financial Secretary to the Treasury, and indeed of other Treasury officials. I was not there, so I am dependent on the written report. The noble Lord, Lord Hannay, according to the record, asked Ms Kelly how concerned she was that a closer dialogue between ECB and the Eurogroup—advocated by the Select Committee—would be,a dialogue from which we will be excluded".Her reply was that she was not concerned, but her reasons for not being concerned—certainly from reading them—appear obscure.
Mr Woods from the Treasury then intervened. He added that such meetings are prepared in the Economic and Financial Committee, in which the UK is represented. He concluded,we are party to those discussions".Yes, my Lords, party, but not part of. There is a significant difference. To be party to these discussions but not part of them is, I would submit, in the long term, a highly vulnerable and unacceptable position for the United Kingdom.
Ms Kelly put the dilemma succinctly at the end of her evidence when she said:We can influence the debate indirectly".I ask the Government this question. For how long are we to be content with being party to, but not part of, the Eurogroup? For how long are we to be content with influencing the debate but only indirectly? Given the importance of the City of London to the euro, given the importance of Britain to the euro, given the importance of the euro to Britain, for how long must we consign ourselves to indirect, not direct, influence, and to being party to and not part of the single currency that is reshaping Europe?
§ 6.25 p.m.
§ Lord Sheldon
My Lords, I was a member of the Select Committee chaired by my noble friend Lord Radice. He has been a very effective chairman; I pay tribute to his work and to his efforts in producing this report and to the Clerk, as my noble friend mentioned.
I am particularly interested in the comparisons frequently made between the European Central Bank, the Fed and the Bank of England. There are a number 65 of similarities and differences. Unlike the Fed and the Bank of England, there is no direct political relationship between the European Central Bank and a political economic department to which it would have some form of accountability. Mr Paul Volcker informed us that the chairman of the Fed and the Secretary of the Treasury met at least once a week. He said in his evidence— I quote from paragraph 33 of the report:The ECB is also 'to support the general economic policies in the Community with a view to contributing to the achievement of the Community'".What would he most desirable would be some agreed political body that could communicate with the ECB to advise and even influence a decision of the bank. In the United States, the Treasury and the Fed are aware of each other's views. They are in a position to have proper and detailed discussions to set out their opinions and the actions that they propose. Disagreement between them would cause embarrassment and much worse. They need to get on with each other. That relationship has some similarity to that between the Bank of England and the Treasury in this country.
But the European Central Bank enjoys no similar relationship with those who run the economies of the member states. Of course it has discussions with member states, but the views that it encounters may be far from unanimous because of the differing economic situation in each of the countries. Given their widespread political and economic situations, how can we replicate the advantageous political and economic input that the Fed and the Bank of England both have?
Could we devise such a body? If we could, what would it look like? It would need a light touch. It might be able to intervene only when things were clearly going wrong. At present, the European Central Bank is working. How far is its success due to the western world's current reasonably stable economy? It is stable at the moment, but in a crisis how would it operate? I agree that at present there should be a symmetrical inflation target, but there are times when that may not be the best way to handle these matters.
In the argument between inflation and growth, banks in my view always have a tendency to prefer the risks of low growth in order to be sure of low inflation. Many in the industrial and political world press for higher growth even if there would be slightly greater risks with inflation.
The objectives of both the European Central Bank and the Bank of England were similar. Paragraph 33 of the report states that,The ECB is also 'to support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community, ' which include 'a high level of employment' and 'sustainable and non-inflationary growth'".We see that the aims of the Bank of England are to maintain price stability and,subject to that, to support the economic policy of Her Majesty's Government, including its objectives for growth and employment".66 The United States are required to keep prices stable, but also and at the same time to seek full employment and to moderate long-term interest rates, which are formally seen as having equal importance. That is quite different form the European Central Bank. Both the Bank of England and the Fed have wider objectives. Of course, at the end of the day, there is one primary objective; we all know that. However, they have the responsibility of looking at these other things and taking them into account because of their relationship with the political and economic structures of the countries that they inhabit. That is important, and it is a gap that the ECB needs to fill in some way.
In practice, both the Bank of England and the European Central Bank have done what they know best—to provide a firm hand on the level of interest rates. Professor Buiter claimed in paragraph 38 that the three-legged mandate of inflation, growth and unemployment had "been forgotten in practice". We now have a single mandate. That is the conclusion of the committee. The question is how we achieve that mandate. The conclusion that I draw is that, if there were a closer relationship between the political and administrative institutions and the European Central Bank, we might get, if not a formal move to determine wider economic issues, at least a dialogue that is not dissimilar to that which the Fed has with the administration.
I believe that there is some trade off between inflation and growth. Some say that such a trade off refers only to the period while the rate of inflation declines. Once inflation is zero, growth can resume its upward path. But if that is so, why should those who hold this view not take the bull by the horns, continue the policy for the limited period of deflationary misery and arrive at the golden goal of zero inflation? The answer is that growth could halt and even become negative. So we have come to the realisation in the real world that, although we may not like it, some inflation is necessary to retain growth, but it must be kept strictly within limits. We must allow from time to time only the move in the direction of zero inflation and not hope or expect ever to attain it. That is what disinflation means in the real present world. If the aim is really zero inflation, how far would growth be affected? That is not a question that we are likely to test.
The Select Committee recommends a modification of the European Central Bank position to a symmetrical inflation target, and that is what we will achieve. In studying the reasoning behind the decisions of the ECB there is a need to spell that out more clearly, which was commented on by many other speakers in this afternoon's debate. There is a distinction between this and the clear danger of attribution of its various views. We must be clear that we cannot attribute to any of the members of the European Central Bank the views of each of the members. The reason is that the views of the Bank may not be the same as those of the individual member states. The identification of the views of the members 67 of the governing council will need to be protected. That was mentioned in paragraph 185 of the report, which states:President Duisenberg said that one of the reasons why the Governing Council did not vote but operated by consensus was that, like the Commission, it was a collegiate body. To move away from this position risked dividing the Council and losing its cohesive, collegiate attitude".We must accept that. There are such differences between the member states that we cannot expose this to argument outside. We must hope that those members of the European Central Bank will look to the wider interests of the bank itself.
How far can we accept the economic variation among EU member states? That question has led to the stability and growth pact mentioned in today's debate. If there are wide variations, not only will the more undisciplined countries affect the working of the union, the central Bank will have difficulties in producing a policy that would be acceptable to all the member countries. The stability and growth pact was introduced to enforce an interest rate policy that could apply equally to all EU members. If a country had an economy that diverged from the others, they would incur higher interest rates. The situation could be endured for a short while if it were one of the smaller economies that deviated from the common policy. Much more difficult would be the position if it were a divergent major economy.
We now have that situation in France and Germany. Two major economies are not only diverging but doing so with a wilful disregard for other members of the European Union as well as the authority of the European Central Bank. That threatens the economy of the union, and the accompanying arrogance is a serious matter just when enlargement is taking place. I agree that the rules must take into account special circumstances—that is obviously essential, as several noble Lords have mentioned. However, I would certainly like France and Germany to be more contrite and apologetic and give more, clear avowals of future behaviour. We have not seen that, and that is something I deplore.
Finally, there is the question of whether and how far the European Central Bank should be given powers over financial supervision. My own view is that we should take all this slowly. We need to see how the arrangements that we have in place deal with the many different situations over some period ahead before we invest too many powers in the bank. In particular, we need to see progress in developing a working and accountable relationship between the bank and the political and industrial institutions of the Union.
§ 6.37 p.m.
§ Lord Newby
My Lords, I, too, join other noble Lords in congratulating the noble Lord, Lord Radice, and his committee on producing such a clear and concise report on an extremely technical subject. I begin by echoing what a number of noble Lords have said about the overall track record of the ECB; namely, it has been successful in its principal aims. It 68 did establish a single currency in Europe in circumstances, as the noble Lord, Lord Brittan and others mentioned, in which many people expected—and in this country, hoped—it would fail. Following on from that, it has succeeded in establishing the euro as the principal global currency along with the dollar. It has also succeeded in attaining its objective of maintaining price stability.
There has been much discussion in the debate today about whether that is the bank's only aim and about the role of that goal as opposed to the subsidiary goals of the other economic aims of the EU. It is worth comparing the bank's role with that of the other central banks mentioned. The treaty says that:The primary objective of the European Central Bank shall be to maintain price stability and without prejudice to the objective of price stability, the ECB shall support the general economic policies in the Community".That sounds to be almost identical in meaning to the words of the Bank of England Act 1998, in which we have the famous "subject to that" proviso. Indeed, evidence to this committee—and to the Economic Affairs Committee when we examined this issue—has shown that, whatever the exact words in relation to the ECB, the Bank of England and the Fed, the way in which they actually interpret their remits is virtually identical.
Before coming to some of the criticisms of the ECB that are valid, I will deal with two that are not. First, as several noble Lords have mentioned, there is the question of the extent to which the ECB, by its interest rate setting policy, has contributed to the sluggish growth of the euro-area. I agree with noble Lord, Lord Brittan, that monetary policy cannot really achieve that. Certainly, it could not have achieved that over the past five years. Does anybody realistically believe that, had the ECB adopted an interest rate policy at even a percentage point less than its current one, the outlook for the German economy would have been fundamentally different from the outlook today? I suspect not.
There are a number of major reasons why there is sluggish growth in the euro-area against which the policies of the ECB can have no impact. The first is the inflexibility of the European economies and the structural problems that they face. As we see in Germany, France, Italy and elsewhere, and as we saw in this country in the 1980s, trying to loosen these inflexibilities is an extremely difficult job and tends to bring with it considerable political difficulty for the government that attempts that change.
The second problem facing Europe is the increased competition from China in manufacturing and, to a lesser extent, from India in manufacturing and the service industries. Clearly the European Central Bank cannot have a significant impact on that. When countries and economies the size of China and India are growing at somewhere between 6 and 10 per cent per annum and are able to produce high-quality goods in competition with those of Europe, we clearly have a problem about which the bank can do virtually nothing.
69 The final issue, which is just coming over the horizon in the view of policy makers, is the consequences for Europe and European growth of a rapidly ageing population. The Economic Affairs Committee examined this issue, and I hope that the House will have a chance to discuss it in the not too distant future. Unless there is greater flexibility in retirement age, training and many other policies, a rapidly ageing population can have very serious consequences for economic growth. It is another issue that the ECB cannot begin to address.
The second invalid criticism of the bank is that it should have done more about the level of the euro. However, as the noble Lord, Lord Watson, pointed out, at first the bank was accused of not being credible, or not being credible enough, and of helping to generate a euro that was too weak. Now it is accused of indolence when the euro is higher than many people, particularly exporters, would want.
I return to the UK experience. A couple of years ago, Sir Edward George, when he was Governor of the Bank of England, appeared before the Economic Affairs Select Committee. We asked him why the pound was so high. He said, "It is all very puzzling. I am not quite sure—it does not seem to make much sense". Perhaps he should not have known why the pound was so high. The idea that a central bank governor possesses all the intelligence and levers to manipulate the value of the currency in the short term is facile nonsense.
A straightforward corollary of having an inflation target as the single target for the bank is that one cannot have an exchange rate target. While I agree with the noble Lord, Lord St John of Bletso, that it would be valuable for the finance ministers at G7 or G8 to discuss the relative levels of their currencies, I see no prospect at this stage of the Americans wanting to join in such a discussion. Therefore, I do not think that it will happen.
If those are invalid criticisms, what are the more valid criticisms? The first is the way in which the two pillars of wisdom of the bank have operated. For me at least, the relevance of the monetary pillar is very questionable. Seeing a graph of M3 annual growth takes one back to the UK of the 1980s where huge attempts were made to target our economy on M3. They were almost totally unsuccessful. I therefore welcome the fact that it appears that the bank is downgrading the monetary pillar. That pillar should be downgraded even further—if it is possible to downgrade a pillar.
I also support the criticism regarding our current asymmetrical inflation target and the need to move towards a symmetrical inflation target. I think that it would be a lot clearer if we moved towards the 2 per cent target. Arguments about inflation targeting, or the need for an inflation target, have caused a quite phenomenal degree of opaqueness in the language of past and present presidents of the bank. Indeed, even the committee almost falls into a semantic bog at this point. There is a wonderful sentence in the report which 1 think I now understand, although I did not on first reading. It states: 70However, the ECB's decision to reject inflation targeting and maintain its two-pillar framework does not imply that the bank is prevented from adopting an inflation target".Having read that three or four times, and having read the report several times, I do understand what it means. However, new readers would be better not to start there.
The report's conclusions on publishing minutes make sense. Press conferences are fine, but they do not have the permanence of minutes. As anyone who has read the minutes of the Bank of England Monetary Policy Committee will know, it is inconceivable that one could get the balance of the argument and some of the subtleties across in a press conference. More generally, at several points in the report it becomes clear that there has been a communications gap with the ECB, certainly under its inaugural president. He almost seemed to take a delight in being uncommunicative and unresponsive. In December 2001, facing calls to intervene to stem the fall in the value of the euro, he earned himself a place in every dictionary of quotations by saying:I hear, but I do not listen".While that might have been the right policy at the time, it unfortunately summed up his view of his role. He constantly gave the impression that central banking was jolly difficult; that even financial sector audiences could not be expected to understand it completely; and, therefore, that it was not worth trying to explain it. That damaged the bank's reputation in its first days. I hope that the new president, Monsieur Trichet, who is naturally a much better communicator, will redress that balance. I agree with the point that a number of noble Lords have made, that a greater flow of information in co-ordinating policy between the ECB and the finance ministers has a lot to recommend it.
The second set of criticisms of the bank centres on its future governance and the membership of the decision-making body. I am not sure that I am wholeheartedly or enthusiastically supportive of what the report proposes. I can see all the arguments about the complexities of the proposed voting system and the neatness of the proposed monetary policy council. However, the problem is that it virtually removes the governors of the central banks of euro-zone members from the one key area of decision making that the ECB possesses. The model is not analogous with the current UK model, even though it is has independent members. Here, the governor chairs the MPC and has a key role in decision making on interest rates.
I have no particular brief to speak for governors of central banks as a union, but given that one of their principal roles within the euro-zone is to explain to their national audiences why decisions on interest rates have been taken, they will be put in considerable difficulty if they are not even in the room where the discussions take place. If one simply sees the Deutsche Bank or the Banque de France as branch offices of the ECB, that might not be a problem. However, at least for the short term, that is not how they will be viewed, not lea st by their own domestic financial markets. In the unlikely event that the UK were shortly to find 71 itself in the euro-zone, I doubt whether Mervyn King would see himself in that subsidiary role. I accept that the proposed system of voting may be too complicated and opaque, but I have sympathy with finding a mechanism for keeping central bank governors formally in the interest rate decision-making loop, not simply observers of it.
It is interesting that the majority of recommendations in the report propose that the ECB should in effect adopt the current practice of the Bank of England. One of the many downsides of the UK's decision not to join the euro-zone at the outset is that Bank of England officials did not have the opportunity to influence the policy and the operational structure of the ECB when it was being established. If they had, I have no doubt that some of the practices criticised in the report would not have been adopted in the first place. It is not to criticise the report to say that our exclusion from the euro-zone is bound to reduce the bank's impact in finance ministries and central banks across the euro-zone and within the ECB itself. That is a pity, but it is only one minor consequence of our continuing wallflower status in the management of Europe's currency.
§ 6.50 p.m.
§ Baroness Noakes
My Lords, I join other noble Lords in paying tribute to the noble Lord, Lord Radice, and his colleagues on Sub-Committee A for producing this report. The reports of the European Union Committee are always authoritative and interesting. This one is no exception.
The House should take especial care to record its gratitude to the noble Lords who produced this report because the Government's response to it is a particularly dismissive one. I am hoping that the noble Lord, Lord McIntosh, will give a more considered response to it this evening. The official response has the hallmarks of being produced by a junior trainee in the Treasury. I can just picture it. The Treasury cannot be doing with the euro or anything related to it, so it gets a young civil servant and sends him off with a pair of scissors, some Sellotape and that large box of papers that the Government produced last year to paper over the cracks in their policy on the euro. Two and a half months later, we have the Government's so-called response. It barely addresses the 35 paragraphs over the three and a half pages of detailed conclusions in the report. The Government's response is quite simply a poor show.
Today, however, your Lordships' House has given the report a proper hearing. We may not have had a huge number of speakers, but the quality has been very high. I was particularly pleased to hear my noble friend Lord Brittan, whose expertise in European matters is well known.
The report comprehensively sets out how the ECB has developed in the past five years and raises interesting issues such as the asymmetrical nature of the target; who sets the goals; the time frame of policy; and the possible role of different types of pillar, 72 monetary and others. The report also examines the bank's role in financial stability. It is interesting to note how we have come to judge the ECB by reference to the success of our own national monetary policy arrangements involving the Bank of England.
When the Bank of England was given monetary policy independence I was a member of the Court of the Bank of England. In a corporate sense I was delighted to be given independence. However, the truth was that I remained a sceptic about the policy and its workability. That scepticism proved unfounded. While there are still some wrinkles in our arrangements, which we have debated in your Lordships' House previously, I think that the arrangements in the UK are a considerable success and superior to those in the ECB. Although that is not the report's conclusion in terms, I think that, between the lines, the framework for judging how well the ECB is doing is based on the success of our own arrangements. I think that that is a good starting position.
I should like to cover two linked issues—the governance arrangements and transparency, both of which have been touched on by other noble Lords.
The report explains with great clarity the triple layers of the Executive Board, Governing Council and General Council. Countries such as the UK who are thankfully outside the euro-zone are represented only on the General Council. However, the Governing Council is where the important interest rate decisions are made and is composed of the six permanent members of the Executive Board and the governors of the central banks of the euro-zone countries. Currently, therefore, 17 people are making the decisions on setting interest rates for the euro-zone, compared with nine on the Monetary Policy Committee in the UK and the 12 who have votes on the Federal Open Market Committee.
One might think that 17 looks cumbersome, but, as noble Lords have explained, it will get much worse with enlargement of the EU— or, more specifically, with enlargement of the euro-zone. There are some extremely complex arrangements that divide countries into groups and rotating votes—which, as the noble Lord, Lord Radice, pointed out, are well explained in the charts in the report. Nevertheless, having looked carefully at those charts, I am not sure that I could repeat exactly how the arrangements work. The very worst case—which is perhaps unrealistic as it assumes that all the current "out" countries would join with the maximum number of enlargement countries—is that there will be 27 central bankers sharing 15 votes in addition to the six votes on the Executive Board.
Part 4 of the report has an excellent critique of the arrangements, which have already been criticised by several noble Lords. To quote Professor Buiter's words at paragraph 140—and he has never been a man to mince his words—the arrangements are "an inelegant mess". The arrangements were rushed through the European Council despite opposition from the Economic and Monetary Affairs Committee of the European Parliament. The United Kingdom Government connived at that by overriding the usual 73 UK parliamentary scrutiny arrangements. However, for that they earned only a very mild rebuke at the end of paragraph 259 of the report's conclusions. Given the committee's general conclusion in that paragraph, I should have thought that the committee should have been a little sterner with the Government. The paragraph states that the committee does,not consider that the agreed reform will work satisfactorily".The Government's response to the report's conclusions on the Governing Council is rather difficult to discern. The civil servant with the scissors and Sellotape found a quote saying that the UK supports the existence of an effective decision-making body in the ECB. Hooray! But the real question is whether the Government think that the proposed arrangements for the ECB will be effective. I hope that the Minister will make the Government's position on that absolutely clear this evening.
Our view is that if these new arrangements do not paralyse the ECB after enlargement it will be a miracle. This is another powerful reason why this country should not abandon its successful national monetary policy arrangements and currency to join the euro at least until a proper set of reforms have been implemented to ensure that the ECB operates as an effective body.
At the heart of the governance arrangements is adherence to national representation. This is one of the diseases that afflicts many European institutions, but it is particularly relevant in the context of monetary policy. Our own experience in the UK tells us that monetary policy is best set by experts. That is why the Government have wisely resisted calls to have, for example, regional or trade union representation on the Monetary Policy Committee. But the ECB has a core of only six neutral experts and the rest of the General Council are representatives. Admittedly they are central bankers and not political representatives, but it is difficult to escape the conclusion, which I think the committee itself reached, that the country representatives on the General Council are just that.
It would, of course, be perfectly possible that each of the central governors would operate in a way that the interests of the euro-zone were the dominant ones, and partisan interests might never arise in the Governing Council. However, we cannot judge that because of the dreadful lack of transparency in the ECB. I refer in particular to the fact that the minutes of the governing council are never published. We cannot tell whether narrow country interests are argued—perhaps they are dressed up as economic imperatives or perhaps there is naked special pleading.
As outlined by the noble Lord, Lord Radice, there are some elements of the ECB that contribute to transparency. For example, there are the press conferences. Also, the president of the ECB appears before the European Parliament's Economic and Monetary Affairs Committee, rather like his US and UK counterparts. However, the committee rightly points out that, unlike the US and UK, the ECB president's appearances are not televised and so those 74 of us in national parliaments and the public generally have no means of judging the messages and their delivery for themselves.
However, even if transparency improves though such things as televising, it will always be imperfect while the minutes remain a secret. The European Parliament wants the minutes published and Sub-Committee A rightly concluded that publication was warranted.
Sub-Committee A supports publication of the minutes but does not go as far as requiring the publication of full voting records or the attribution of views. We have become accustomed in this country to the publication of voting records. It is occasionally trivialised in the press, but it does contribute to transparency. On the other hand, our MPC's minutes do not attribute views. I think that had I been on the committee I would have been bolder than the committee has been. I would have placed the need to ensure that contributions were unbiased and seen to be unbiased by home considerations above the possibility—discussed in the report—of pressure at home coming from revealing either voting patterns or views. However, that is perhaps a refinement and we support the main thrust of the committee's recommendations on transparency.
However, I have absolutely no idea whether the Government agree because the civil servant with the scissors and sticky tape must have failed to find an opinion on the subject in his box of papers. I hope that the Minister will this evening give an unambiguous statement about the need for the ECB to become more transparent through publishing its minutes.
Let me conclude by repeating my thanks to the noble Lord, Lord Radice, and his committee for a stimulating report and for the opportunity that he has given us to debate that report and to expose some of the fault lines in the arrangements within Economic and Monetary Union.
§ 7.2 p.m.
§ Lord McIntosh of Haringey
My Lords, I join noble Lords in expressing appreciation to the noble Lord, Lord Radice, and the other members of the committee. The report is a worthy successor to the earlier one on the stablility and growth pact and does indeed, although people do not seem to like the phrase. make an important contribution to the debate.
The noble Lord, Lord Watson, said as his summary of the report that its recommendations urge the ECB to go more in the direction of Britain, the Treasury and the Bank of England and its Monetary Policy Committee. I suppose that if I wanted an easy life I would conclude that imitation is the sincerest form of flattery and that we need go no further than that. However, I will not do that because I believe that the subject is very important.
I was disturbed by the suggestion, put gently by some participants in the debate and considerably less gently by the noble Baroness, Lady Noakes, that the Government were in some way being dismissive of these issues, or that they did not have firm views on 75 them. I remind the House and the committee that with the support papers that were published in June at the time of the EMU decision there was a paper entitled Policy Frameworks in the UK and EMU, which addressed precisely the same points as are addressed in this report. It addressed them if anything at slightly greater length—something like 100 pages—and covered the issues of monetary and fiscal policy, policy co-ordination and financial stability that are covered in this report.
When I turn to the committee's report, I find that the only reference to our policy framework document in the text of the report is a footnote on page 46 on an academic issue. There is no recognition at all that the Government had made, during the period in which the committee was considering the issue, a major contribution to the debate. The only other references to that to be found in the report are in the evidence from the Financial Secretary to the Treasury and her officials, which are recorded in the evidence section of the report.
If anybody says that the Government have been dismissive of these matters, I would say that the boot is on the other foot. On the contrary, it is the committee that has been dismissive to the extent of silence about the very considered and detailed views that the Government have expressed on these matters. It is therefore misplaced to criticise, as some, mostly gently, have done, the Government's response.
It is also the case that the committee has its own terms of reference. It is fully entitled, and the House appreciates this, to express its views on such matters as it chooses to debate. The Government, of course, are inevitably more constrained. The committee can make recommendations regardless of the possibility in political terms of achieving any of the objectives that it wishes to meet. The Government have to live in the real world. The Government have to consider whether it is appropriate for them to make public comments on the conduct of a body of which they are not a member.
We are of course a member of the European system of central banks, but we are not a member of the European Central Bank. I suggest that in the real world it is not all that surprising that the Government do not leap to attention when a committee asks us for an unequivocal answer to questions about the composition and conduct of the European Central Bank, or indeed to the question of whether France has behaved brazenly in the way in which it has reacted to the implementation of Article 104 of the treaty.
I put those points to the House as an opening remark in my usual conciliatory way. That does not mean that I will not seek to comment on the debate and on the report itself, because it is important, as the noble Lord, Lord Sheldon, and the noble Baroness, Lady Noakes, remarked, that we should observe the similarities and differences between the way we do things and the way the European Central Bank does them. Similarities include the fact that interest rate decisions are taken by an independent central bank with a statutory mandate to ensure price stability and, without prejudice or subject to that, to support growth 76 and employment. The frameworks incorporate a substantial degree of transparency in the form of publishing analysis and providing data and we will discuss whether more transparency is appropriate for the central bank. They both command a high degree of credibility in achieving their inflation objectives.
However, there are differences. The ECB defines price stability but here the Government define it. The ECB does not have an explicitly symmetrical inflation target, although, as I will suggest, it is moving towards one. The ECB assigns a special role to monetary aggregates under its first pillar although again, it seems to be chipping away at the first pillar to some extent. The minutes of our MPC meetings and the voting records are published, but the minutes of the governing council meetings are not. There are fewer formal mechanisms to hold the ECB to account, and the composition of the decision-making bodies is different. Some of that is inevitable.
Let me start, on the substantive issues that we have debated this evening, with the symmetrical inflation target. I agree with the noble Lord, Lord Sheldon, that if we really had an asymmetrical target in Europe, and if two were really the top or less were the bottom, we might risk deflation. However, as he said, it has not happened. Why not? Because there is movement towards a position that is closer to our position. Wim Duisenberg said that,in practice, we are more inclined to act when inflation falls below 1 per cent and … when inflation threatens to exceed 2 per cent in the medium term".There have been a number of months when inflation has gone above 2 per cent and no action has been taken. Of course there is potential for uncertainty in the euro area. Inflation targets might be problematic and might cause the euro area's fiscal authorities to overreact to potential deflation. However, I suspect that the issue is more one of wording than of practice.
Similarly, I do not pay much attention to the difference in wording between our Monetary Policy Committee's "subject to" and that used by the European Central Bank. I recall that. at the time of the then Bank of England Bill, the noble Lord, Lord Barnett, who commented on that point, opposed vigorously "subject to" because he wanted to have growth and employment as an equal and additional objective. Like the noble Baroness, Lady Noakes, who recognised the correctness of delegation to the Bank of England, he may be coming round, and there may be more sweetness and light than there was at that time.
On the two-pillar framework, the noble Lord, Lord Newby, suggested that the use of M3 data should be downgraded more than it has been. I suspect that it is being downgraded more than it has been. It is only recorded once a year nowadays. I think that Milton Friedman would be disappointed, even having rejected his own theories, in the extent to which monetary aggregates are no longer important elements of monetary policy.
I return to the reform of the governing council, which is really an area on which it is very difficult for us to see a political way ahead. We can all have 77 formulae, of course, and the committee's formula of a small central core is perfectly rational. However, given the provisions of Article 10.6, inserted into the ECB statute under the Treaty of Nice, and the requirement for unanimity in both the governing council and the Council, the Government believe that the decision taken at the 2003 spring European Council, where the heads of state or government agreed the change unanimously, probably represents the only feasible proposal achievable at the current stage.
The noble Lord, Lord Brittan, may think that there are alternatives. However, living in the real world, there is not much likelihood of an alternative. We have set out in the policy frameworks document a great deal of the academic and political argument that has taken place, and we acknowledge the force of the different opinions that have been expressed. However, we have to rely on what is actually possible in the political circumstances of Europe as it exists.
Similarly on transparency, the noble Lord, Lord Grenfell—the chairman of the European Union Committee—asked in his letter, in which he expressed disappointment at our response, whether we agreed with the recommendation that the ECB should publish records of meetings of the governing council. That matter is resolved by the EC treaty, which requires the ECB to publish quarterly reports and address an annual report to the European Parliament, ECOFIN, the Commission and the European Council. The ECB has chosen to go beyond those requirements in the sense of having a press conference after the first meeting of each month, by publishing monthly bulletins, and by publishing the euro-system staff macroeconomic projections twice a year.
There is therefore a movement towards transparency. However, on what a body of which we are not members should do in detail in terms of publishing either minutes or voting records, I would not go further than Sue Owen, the director of our macroeconomic policy and international finance directorate. She said in her evidence to the committee that the evidence,showed, on balance, that the markets had correctly anticipated decisions. We inferred from that they felt they were getting enough information about the way the Bank worked at the moment".That applies to the issues of both minutes and voting records.
Of course, as the noble Lord, Lord St John, emphasised, there is a need for enhanced policy dialogue and exchange of information between the ECB and the member states of the euro area. Again, that is discussed in great detail in our policy framework documents. It would have been helpful had that been recognised in the committee's report. It could have been taken, as it is, as the considered and well thought out view of the Government on the matter. It is all there in chapter 5. Ed Balls's speech at York University last Friday gives it in even more detail. We are saying that, although mechanisms are in place for information sharing between the authorities, the evidence suggests that they may not be currently used to their full potential. That is a proper conclusion to make on the issue.
78 I suppose that the next kind of issue relating to that is also on accountability, and is that of who should define price stability. The Government provided a rather more detailed response on that point. Our framework has been set up to ensure a clear separation of roles and responsibilities between the Government and the Bank of England. In the case of the ECB, it is the EC treaty that states that no members of the euro system shall seek to or take,instructions from Community institutions or bodies, from any government of a member state or from any other body".Even in extreme circumstances, the ECB's independence cannot be overruled. Any change to that would require a treaty change with unanimity. Again, that issue is covered in great detail in the policy frameworks document. In the real world, we must look seriously at what chance there would be of a treaty change requiring unanimity.
As I said at Question Time this afternoon, the Government support a prudent interpretation of the stability and growth pact that builds on the code of conduct agreed by member states in June 2001, and the report agreed by EU Finance Ministers on strengthening budgetary co-ordination in June 2003. The noble Lord, Lord Barnett, asked what I meant by a prudent interpretation. I meant what I have always meant by it; namely, a combination of recognition of the importance of the economic cycle, the importance of sustainability, and the importance of public investment. My view is that, without saying so, there is a movement towards prudent interpretation. I shall not claim that that was the outcome of the meeting of ECOFIN on 25 November, but I shall certainly say that over a longer period the Chancellor's arguments have started to gain recognition in Europe. I think that is good and it was, indeed, Jon Cunliffe who said that in evidence to the Economic Affairs Committee. I cannot remember who quoted that without quoting his name.
We believe, of course, as the noble Lord, Lord Newby, said, that comprehensive reform of Europe's labour, product and capital markets is important to deliver the dynamic Europe of full employment and social justice to which Europe and we are committed. We said that in the most recent Pre-Budget Report and I am not complaining that it was not included in the committee's report, because the Pre-Budget Report was later. But we take such matters extremely seriously and we are concerned with the economic governance of the euro area. We do not blame the European Central Bank for the defects which undoubtedly exist in economic governance in the euro area, but in any case, as always, we will publish a progress report on European economic reform ahead of the spring European Council in March 2004.
Finally, the noble Lords, Lord Barnett, Lord Sheldon and Lord St John of Bletso, referred to financial stability and prudential supervision. We do support and have supported ECOFIN's agreement in December 2002 to extend the Lamfalussy process to banking, insurance and the financial conglomerate sectors. Of course there are differences in the sense that prudential supervision is a matter for member states 79 rather than for the European Central Bank, but the conclusions that we reach on such matters are shared by the November 2003 report of Sub-Committee B on the European financial services action plan. When we debate that, I trust that we can do so in a spirit of greater unanimity.
I do not apologise for our responses to the committee's report. We take the subject seriously and have expressed our views with the seriousness that it deserves. I repeat my gratitude to the chairman and all members of the committee for their report.
§ 7.23 p.m.
§ Lord Radice
My Lords, my colleagues and I thank all noble Lords who have taken part in what has been an excellent and informative debate. I doubt that we could have had the same debate in the other place. I also thank my noble friend the Minister, despite his somewhat hurt tone, for his lucid remarks—
§ Lord Radice
My Lords, I understand the limitations on what he may say. I cannot resist one remark, which is that we did not quote from the document that he mentioned, but we quoted from the Financial Secretary and her officials, because she said it more clearly and lucidly—and gave us much more information—than the document. That is why we quoted from the hearing rather than from the document that he mentioned.
§ On Question, Motion agreed to.