Efficiency and Transparency of the Monetary Policy Strategy of the ESCB

The Treaty of Maastricht specified the goals for monetary policy: According to Art. 105(1), the primary objective of the European System of Central Banks (ESCB) is to maintain price stability. However, the Treaty also stipulates that, without prejudice to the objective of price stability, the ESCB is to support, above all, a high level of employment. This can be interpreted to mean that policy makers assigned the ESCB the tasks to maintain price stability and to stabilise output across business cycles. In October 1998, the ESCB announced its monetary policy strategy, i.e., a framework for policy decisions that is deemed appropriate to achieve these goals. Within this strategy, money is given a prominent role: the ESCB published a reference value for the broad monetary aggregate M3 that is designed to be consistent with, and serve the achievement of price stability. Furthermore, a broadly based assessment of the outlook for future price developments and the risks to price stability in the euro area will play a major role in the ESCB's strategy This strategy is neither a money supply targeting, nor an inflation targeting strategy. Contrary to the strategy of the Deutsche Bundesbank, the ESCB clearly states that it will not respond automatically to deviations of current money growth from the announced reference value. Unlike in the case of inflation targeting, it will publish neither its inflation forecast nor an explicit inflation target. The present article discusses whether the monetary strategy of the ESCB is optimal, i.e., whether it is efficient and transparent. It is argued that the strategy has the potential of efficiency, of fulfilling the goals of monetary policy in an optimal way, if the ESCB follows flexible inflation targeting in practice. Money supply targeting is considered inappropriate, since there is insecurity about whether important preconditions for the appropriateness of money supply targeting, such as stability and controllability of money demand, are fulfilled in the Monetary Union. An increasingly important prerequisite for the optimality of a strategy is transparency. Increased transparency makes the central bank's reputation more sensitive to its actions and induces the central bank to gear its policy to come closer to that with the greatest social benefit. Transparency is crucial for accountability. The strategy of the ESCB lacks full transparency. Publishing conditional inflation forecasts would give the public the option to monitor and evaluate the central bank's policy and to assess its coincidence with the monetary policy goals assigned to the ESCB.