Champions of ECB openness notched up significant victory

Date: 17/02/2000

By Tim Jones

ADVOCATES of monetary-policy glasnost have chalked up another victory in their campaign to open up the European Central Bank to outside scrutiny.

Having already promised to release the internal economic forecasts upon which interest-rate decisions are based, ECB President Wim Duisenberg has now decided to publish details of the mathematical model that generated them.

Duisenberg, supported by the overwhelming majority of the 17-member ECB's governing council, is still adamantly opposed to releasing detailed minutes of policy meetings or voting records.

But the decision to publish the model as part of the ECB's regular working papers series later this year - with external referees ready to road-test it to destruction - is highly significant. We may not know who voted which way when interest rates were hiked by a quarter-point to 3.25% two weeks ago but, with this model, professional economists will be able to judge much more easily why.

The decision is also eloquent testimony to the growing self-confidence of an institution which is prepared, just 19 months into the world's biggest currency experiment, to test its decision-making prowess against the best the markets can throw up.

Publishing the model became inevitable from the moment Duisenberg promised to release the ECB's internal forecasts. "There can be a greater risk of misleading people with too little information rather than too much," said a policy expert.

For example, an internal ECB inflation forecast from last autumn for the second half of 2000 would have shown prices rising by 1.75% annually, but this would have assumed no changes to interest rates over the following 18 months. In fact, there have already been two rate hikes worth 0.5 of a percentage point. Bank officials worried that raw data like this could feed wage inflation.

As ECB Chief Economist Otmar Issing put it in a recent speech in defence of the bank's secretive policy-making: "It is important to stress that forecast figures should not be understood as an exhaustive, coherent and yet simple way of presenting all the components of, for example, an assessment of the outlook for future price stability. Such a presentation is simply impossible to achieve given the degree of uncertainty central banks face."

In this case, however difficult it is for the non-specialist to understand, more is certainly better in the bank's book and that of certain International Monetary Fund directors who recommended such a move back in April last year.

The crux of models is that they describe economic relationships - such as that between price and income on the quantity of a good demanded - and test the validity of such assumptions, as well as measuring the relative influence of different variables.

A typical macroeconomic model will contain hundreds of equations and variables, and cover all the economy's major sectors. To an untrained economist, they look as though a spider has walked across the page.

But they are gold-dust to universities, investment banks and even government economists. By getting their hands on the ECB model, outside bodies - including the European Parliament's economic and monetary affairs committee - will be able to run simulations of possible external shocks to the euro zone, such as a big increase in the price of oil, the effectiveness of interest-rate changes and the impact of various budget deficits or surpluses on the economy.

There is nothing new in this. In the UK, for instance, the Ernst & Young ITEM Club is able to trumpet itself as the only economic forecasting group to use the treasury's model of the British economy for calculating forecasts.

When the latest figures were released last week showing higher-than-expected growth rates of 3.5% this year, nobody said the forecasts were more accurate than the scores of private-sector predictions. What they did, however, was give an inkling of how the government sees the economy developing and what this will mean for policies on tax and spending.

Rather than second-guessing the ECB as it touches the brakes in anticipation of inflation 18 months down the road, this suggests what the true role of the Parliament should be in overseeing the bank.

True accountability would result from analysing monetary history. By looking back over the previous 18 months and auditing the monetary-policy decisions taken by the bank over that period and their effectiveness, the economic and monetary affairs committee would be conducting a dull but vital and intellectually intriguing task.

Major feature. Advocates of monetary-policy glasnost have chalked up another victory in their campaign to open up the European Central Bank to outside scrutiny. Having already promised to release the internal economic forecasts upon which interest-rate decisions are based, ECB President Wim Duisenberg has now decided to publish details of the mathematical model that generated them.