Central banks are aware they do not operate in a political vacuum. In democratic societies, the political context is all-pervasive. The European Central Bank (ECB) offers an striking example. Conceived at a time when centre-right governments ruled the roost in the European Union, the ECB found the situation quite different when it assumed responsibility for euro zone monetary policy on January 1st last.
Centre-left politicians now controlled all 11 euro zone countries except Ireland and Spain. Some of these politicians were not afraid to speak out. Mr Oskar Lafontaine, Germany's new finance minister, and Mr Dominique Strauss-Kahn, his French colleague, took delight in offering the ECB advice on interest rate policy.
"If there is no correction in interest rates, it will be difficult to reach the growth rates needed to reduce unemployment," Mr Lafontaine told a congress of his ruling Social Democratic Party last November. Such remarks did not herald a showdown between interventionist politicians of the left and central bankers determined to assert their independence. The politicians were not out to destroy or demoralise the ECB. That would hardly have been in their own interest.
The purpose of Mr Lafontaine and others was rather to remind the ECB it had an obligation, under the EU's Maastricht Treaty. This aims to achieve "sustainable, non-inflationary growth respecting the environment, a high degree of convergence of economic performance, a high level of employment and social protection, the raising of living standards and quality of life . . .".
Thus, the ECB's task is not just to slay inflation for all time. Growth and employment also matter. Members of the ECB's policy-making governing council already knew this. But until Mr Lafontaine and Mr Strauss-Kahn weighed in, the bankers had not mentioned it much in public. The ECB's first monthly report, published last week, takes care to signal that the bank is listening to the politicians. It talks explicitly of "the broad need for mutual co-operation and dialogue among policy-makers in an inter-dependent environment". The report stresses that the ECB is "concerned about the current high level of unemployment in the euro area".
But it says the best contribution monetary policy can make is to focus on keeping medium-term price stability, and contends that unemployment is "overwhelmingly structural in origin".
The ECB has also taken careful note of a joint statement by Mr Lafontaine and Mr Strauss-Kahn, that France and Germany would not welcome an overvalued euro.
In a speech in Frankfurt earlier this week, Mr Wim Duisenberg, ECB president, said: "The ECB's monetary policy is not one of benign neglect with respect to the exchange rate of the euro. If a strong and abrupt appreciation of the euro were to occur, this would lead, all other things being equal, to downward pressures on price developments. Then, there would be a stronger reason for lowering the ECB's interest rates."
