Saturday, July 19, 2014

The Most Transparent Central Bank in the World?

At a hearing before the House Financial Services Committee on Wednesday, Federal Reserve Chair Janet Yellen called the Fed the "the most transparent central bank to my knowledge in the world.” I'll try to evaluate her claim in this post. For context, the hearing focused on legislation proposed by House Republicans called the Federal Reserve Accountability and Transparency Act, which would require the Fed to choose and disclose a rule for making policy decisions. Alan Blinder explains:
"A 'rule' in this context means a precise set of instructions—often a mathematical formula—that tells the Fed how to set monetary policy. Strictly speaking, with such a rule in place, you don't need a committee to make decisions—or even a human being. A handheld calculator will do."
Blinder, who has long advocated central bank transparency, calls FRAT an "unneccessary fix" for the Fed. Discretion by an independent Fed needs not impede or preclude transparency, and the imposition of rules-based policy would not guarantee improved accountability and transparency.

What about Yellen's description of the Fed as the most transparent central bank in the world? Is it reasonable?  Nergiz Dincer and Barry Eichengreen have constructed an index of transparency for more than 100 central banks. Updates to the index, released earlier this year, cover the years 1998 to 2010.

Dincer and Eichengreen rate transparency on a scale of 0 (lowest) to 15 (highest). The 15-point transparency scale is based on awarding up to 3 points in each of the following components:

  1. Political transparency: statement of objectives and prioritization, quantification of primary objective, and explicit contracts between monetary authority and government
  2. Economic transparency: publication of central bank data, models, and forecasts
  3. Procedural transparency: use of an explicit policy rule or strategy, and transparency over the decision-making process and deliberations
  4. Policy transparency: prompt announcement and explanations of decisions and intentions; 
  5. Operational transparency: regular evaluation of the extent to which targets have been achieved, provision of information on disturbances that affect monetary policy transmission, and evaluation of policy outcomes
The most transparent central banks as of 2010 are the Swedish Riksbank (14.5), the Reserve Bank of New Zealand (14), the Central Bank of Hungary (13.5), the Czech National Bank (12), the Bank of England (12), and the Bank of Israel (11.5).

The Federal Reserve, with a transparency score of 11, is tied for 7th with the ECB, the Bank of Canada, and the Reserve Bank of Australia. In 1998, the Fed's score was 8.5, and has held steady at 11 since 2006. So it is certainly reasonable to say that the Fed is among the most transparent central banks in the world. And since we can interpret transparency subjectively, and any rating scale has some degree of arbitrariness, these ratings don't disprove Yellen's claim.

The ratings were made in 2010. The Fed earned 1 out of 3 points in the political transparency category, 2.5 of 3 in procedural transparency, 1.5 of 3 in operational transparency, and perfect scores in the other categories.  The Fed's score should improve at the next update, since the January 2012 announcement of a quantitative 2% inflation goal may restore some partial credit in the political transparency category. A perfect 15 is not necessarily desirable. For example, one point in the political transparency category can only be awarded if the bank has either a single explicit objective or explicitly ranks its objectives in order or priority. Most banks that earn that point explicitly target inflation. To earn that point, the Fed would have to formally declare its price stability mandate a higher priority than its maximum employment mandate (or vice versa, which seems highly unlikely), while the Congressional mandate in the Federal Reserve Act does not prioritize one over the other.

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