The Design and Role of Central Banks in the Global Economy

European Central Bank

EU Population made up of 27 countries made up of 27 countries

Economic Output

Euro Area: 16 countries

Objectives

ECB Shareholders Shares are attributed according to the population and GDP of each country

Euro Area: 16 countries

EMU Economic and Monetary Union Union where several countries have the same: Central Bank ECB Central Bank ECB Currency Currency Monetary policy Monetary policy

Convergence Criteria Substantial prices : the inflation must not be more than 1.5 % higher than the three members with the lowest inflation. Substantial prices : the inflation must not be more than 1.5 % higher than the three members with the lowest inflation. Substantial exchange rate : the exchange rate has to be stabile relative other EU-currencies for two years before entering the EMU. Substantial exchange rate : the exchange rate has to be stabile relative other EU-currencies for two years before entering the EMU. Government finance: Government finance: - Annual government deficit: the ratio of the government deficit to the GDP must not exceed 3% at the end of the preceding fiscal year. - Government debt: the government debt must not exceed 60% of the GDP at the end of the preceding fiscal year. Long-term interest rates : the nominal long-term interest rates must not be more than 2 percentage points higher than the three lowest inflation member states. Long-term interest rates : the nominal long-term interest rates must not be more than 2 percentage points higher than the three lowest inflation member states.

Why have Sweden chosen not to be a member of the EMU?  Election 14th of September 2003, 55,9% voted against and 42,0% voted for. - Sweden is the most democratic country in the world and will never join EMU without a vote from the Swedish people.  No incentive to change currency - Sweden’s floating exchange rate has apperaed to gain the Swedish economy for the last 15 years.

Reasons for Sweden to stay out of EMU 1. Sweden would lose its ability to use monetary policy to prevent inflation and unemployment 2. Sweden is a relatively small country and will not be a priority for ECB. ECB would use meassures to benefit the larger states and there meassures do not necessarily have to benefit Sweden.

Reasons for Sweden to stay out of EMU 3. Limited influence – when EMU reaches 22 members they will divide them into three groups with different number of votes. 4. A membership in the EMU would mean that the monetary policy would fall outside the control of the government and hence the democratic control  independence would be transferred from the citizens’ level to an EU-level.  independence would be transferred from the citizens’ level to an EU-level.

Conclusion One single currency cannot suit as many as 16 countries with different backgrounds and conditions an make them all gain  the bigger and more powerful a country is the more it would benefit from a membership of the EMU.

Swedish krona A proof that a non-membership of the EMU has gained Sweden is the fact that the Swedish krona has had the best development among all EU-currencies including the euro this year.

The United States’ Central Bank Also known as: The Federal Reserve System Or “The Fed”

Development U.S. had two central banks U.S. had two central banks Failed and discontinued Failed and discontinued Continuing crises led to a need for a central bank of sorts Continuing crises led to a need for a central bank of sorts The Federal Reserve System implemented in 1913 The Federal Reserve System implemented in 1913

Purpose “to provide the nation with a safer, more flexible, and more stable monetary and financial system. Over the years, its role in banking and the economy has expanded” “to provide the nation with a safer, more flexible, and more stable monetary and financial system. Over the years, its role in banking and the economy has expanded” Act as the Government’s bank as well as other very large banks Act as the Government’s bank as well as other very large banks Use Monetary policy to control: money supply, inflation, etc. Use Monetary policy to control: money supply, inflation, etc. Regulate transactions between regions Regulate transactions between regions

Structure There are 12 branches of the Fed spread out in 12 major cities There are 12 branches of the Fed spread out in 12 major cities The Fed is run by the Board of Governors The Fed is run by the Board of Governors Ben Bernanke is the chairman of the Board Ben Bernanke is the chairman of the Board Most of the time, people simply agree with the Chairman Most of the time, people simply agree with the Chairman

Structure The Board of Governors has a sub committee called the Federal Open Market Committee, which also has the head of the New York branch. The Board of Governors has a sub committee called the Federal Open Market Committee, which also has the head of the New York branch. Both are advised by: Both are advised by: Federal Advisory Council Federal Advisory Council Consumer Advisory Council Consumer Advisory Council Thrift Institutions Advisory Council Thrift Institutions Advisory Council

Policies Monetary Policy Monetary Policy Carried out by changing interest rates and influencing money supply Carried out by changing interest rates and influencing money supply Quantitative Policy Quantitative Policy Done in times of extreme crisis where the Fed buys bonds from corporations Done in times of extreme crisis where the Fed buys bonds from corporations

The Fed In Essence, The Fed’s basic purpose is to help the U.S. stay stable, keep the economy strong internationally, and avert or end bank panics. In Essence, The Fed’s basic purpose is to help the U.S. stay stable, keep the economy strong internationally, and avert or end bank panics. In light of this fact, current conditions in the U.S. have led the Fed to act in many different ways. In light of this fact, current conditions in the U.S. have led the Fed to act in many different ways.

Financial Crisis 2007: Domestic Financial Crisis with International Implications 2007: Domestic Financial Crisis with International Implications Triggered by Liquidity Shortfall Triggered by Liquidity Shortfall Sub –Prime Mortgages illustrated the nature of banking, prompting the demise of some financial institutions and the bailouts of many more Sub –Prime Mortgages illustrated the nature of banking, prompting the demise of some financial institutions and the bailouts of many more Worst Financial Crisis since the Great Depression Worst Financial Crisis since the Great Depression

What Did the Fed Do? As previously discussed, the role of Federal Reserve is quite clear As previously discussed, the role of Federal Reserve is quite clear Promote employment Promote employment Maintain healthy levels of inflation Maintain healthy levels of inflation As the crisis emerged, the Fed acted in accordance with traditional monetary policy, ultimately reducing short-term interest rates to nearly zero As the crisis emerged, the Fed acted in accordance with traditional monetary policy, ultimately reducing short-term interest rates to nearly zero

Purchase of US Securities The Fed purchased 1.75 Trillion Dollars worth of Treasury Securities and US-backed mortgage securities in 2008 and 2009, lowering long term interest rates The Fed purchased 1.75 Trillion Dollars worth of Treasury Securities and US-backed mortgage securities in 2008 and 2009, lowering long term interest rates Bernanke’s view of the Great Depression: Money Supply Bernanke’s view of the Great Depression: Money Supply Injection of liquidity helped pave the road to recovery Injection of liquidity helped pave the road to recovery

Quantitative Easing Purchase of Securities designed to increase money supply and accomplish: Purchase of Securities designed to increase money supply and accomplish: Reduce the cost of borrowing Reduce the cost of borrowing Inflate asset prices Inflate asset prices Increase lending Increase lending As a whole, Quantitative Easing is a less widely known tool of monetary policy, and it’s theory and practice is widely debated As a whole, Quantitative Easing is a less widely known tool of monetary policy, and it’s theory and practice is widely debated

Latest Installment On November 5 th, The Fed announced the purchase of an additional 600 billion dollars worth of long term securities, again designed to reinvigorate the market On November 5 th, The Fed announced the purchase of an additional 600 billion dollars worth of long term securities, again designed to reinvigorate the market Reason and Rationale: While recovery is taking place, employment continues to be high and inflation is dangerously low Reason and Rationale: While recovery is taking place, employment continues to be high and inflation is dangerously low Possible Outcomes? Possible Outcomes? Only time will be the tell Only time will be the tell

Conclusion Monetary Theory and Practice is critical in an understanding of Money and Banking Monetary Theory and Practice is critical in an understanding of Money and Banking International Central Banks differ in design and practice International Central Banks differ in design and practice While economists continue to debate particular policy, there is no denying the crucial role the Fed has played in the midst of our current economic crisis While economists continue to debate particular policy, there is no denying the crucial role the Fed has played in the midst of our current economic crisis