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The trade-off between central bank independence and conservatism in a New Keynesian framework

  • Eijffinger, Sylvester C.W.
  • Hoeberichts, Macro M.

The purpose of this paper is to discuss the issue of Treaty reform and its consequences for monetary policy. Inter alia, the changes include that the institutional set-up will be subtly changed and the European Central Bank (ECB) will be grouped in the first part of the Treaty as one of the "other institutions and advisory bodies". Possibly more importantly, the euro area as such will be in the position to act legally as itself within the European Union (EU) legal structures. The Eurogroup also will be officially recognized ("Euro-Ecofin-Council"). President Jean-Claude Trichet's concern about the status of the ECB under the new Treaty and fear that by including the bank in a list of EU institutions implies a risk that EU member states could formulate policy recommendations to the ECB, but may also lead to more central bank conservatism with the ECB as explained in our analysis. In this paper we analyze the trade-off between central bank independence and conservatism with New Keynesian framework following Woodford [Woodford, M., 2003. Interest and prices: foundations of a theory of monetary policy. Princeton University Press, Princeton.] and others. Our conclusion is that the trade-off between central bank independence and conservatism still holds within the New Keynesian framework. Politicians should therefore realize that their attempts to downgrade ECB's independence legally and verbally will only increase its conservatism in order to maintain the same inflationary bias and limit the ECB's degrees of freedom with respect to its interest rate policy.

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Article provided by Elsevier in its journal European Journal of Political Economy.

Volume (Year): 24 (2008)
Issue (Month): 4 (December)
Pages: 742-747

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Handle: RePEc:eee:poleco:v:24:y:2008:i:4:p:742-747
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  1. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Interest-Rate Rules: II. Applications," NBER Working Papers 9420, National Bureau of Economic Research, Inc.
  2. Eijffinger, Sylvester C W & Hoeberichts, Marco, 1998. "The Trade off between Central Bank Independence and Conservativeness," Oxford Economic Papers, Oxford University Press, vol. 50(3), pages 397-411, July.
  3. Eijffinger, S. & De Hann, J., 1995. "The Political Economy of Central Bank Independence," Papers 9587, Tilburg - Center for Economic Research.
  4. Eijffinger, S.C.W., 1993. "Central bank independence in twelve industrial countries," Other publications TiSEM 0401b17a-e2c7-4179-ace9-a, Tilburg University, School of Economics and Management.
  5. Mark Gertler & Jordi Gali & Richard Clarida, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December.
  6. N. Gregory Mankiw, 2006. "The Macroeconomist as Scientist and Engineer," Harvard Institute of Economic Research Working Papers 2121, Harvard - Institute of Economic Research.
  7. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  8. Cukierman Alex, 1992. "Central Bank Strategy, Credibility, And Independance: Theory And Evidence," Journal des Economistes et des Etudes Humaines, De Gruyter, vol. 3(4), pages 10, December.
  9. Kenneth Rogoff, 1985. "The Optimal Degree of Commitment to an Intermediate Monetary Target," The Quarterly Journal of Economics, Oxford University Press, vol. 100(4), pages 1169-1189.
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