The end of surprises

Central banks' transparency

Dec 1st 2005
From The Economist print edition

It is becoming easier to understand the workings of central banks

NO ONE should have been surprised when, on December 1st, the European Central Bank (ECB) raised euro-area interest rates by a quarter of a percentage point, to 2.25%. The rate increase may be controversial, but it was scarcely unexpected: Jean-Claude Trichet, the ECB's president, had dropped the heaviest of hints far in advance.

In fact, central banks everywhere are becoming easier to read: look at the long, predictable series of rate rises by America's Federal Reserve. It wasn't always so. In pre-euro days, Germany's Bundesbank almost enjoyed taking markets by surprise. And it was only in 1994 that the Fed started saying publicly whether it had changed rates at all. Until then, it was up to the markets to work out what, if anything, had happened.

Now most central banks swear by “transparency”. This covers more than just preparing the ground for interest-rate moves; everything from setting out policy objectives to publishing economic models and forecasts also falls under the term.

However, some are more transparent than others; and different banks are open in different ways. The ECB, for example, does not publish minutes of its rate-setting meetings; the Fed and the Bank of England do. And whereas the British and the euro-zoners have inflation targets, the Fed so far does not.

In a new study*, Sylvester Eijffinger, of Tilburg University, and Petra Geraats, of the University of Cambridge, present an index of the transparency of nine central banks—the eight that matter most in foreign-exchange markets, plus New Zealand's, the pioneer of central-bank clarity.

Banks can score up to 15 points, three for each of five types of openness: political (eg, whether a central bank has a formal target and whether it is independent); economic (its data, models and forecasts); procedural (strategy and the publication of minutes); policy (how decisions are explained, and whether future changes are indicated); and operational (how clearly banks explain missed targets, and how well they explain economic surprises).

The central banks of New Zealand and Sweden top the table in 2002, with 14 points, followed by the Bank of England, with the ECB and the Fed in the middle of the pack (see chart). Almost all central banks became more open after 1998. Sweden's Riksbank saw the biggest change, adopting an explicit indication of where policy might head next and an annual review of inflation (which it targets) over the past three years. Even ten or 15 years ago, few banks would have scored double figures.

Since 2002, central banks have become more transparent still. The Fed, for instance, has been publishing minutes of its meetings more speedily since the start of this year. Mr Eijffinger says that he expects the trend to continue. Ben Bernanke, the Fed's chairman-designate, favours an explicit inflation target. Mr Eijffinger also believes (and hopes) that the ECB will start publishing minutes, something that it has so far resisted.

* “How Transparent Are Central Banks?”. Forthcoming in the European Journal of Political Economy.

Copyright © 2005 The Economist Newspaper and The Economist Group. All rights reserved.