| Central banks are relatively new inventions. An | | | | statement:In most countries in the world, bank |
| American President (Andrew Jackson) even | | | | supervision is a heavy-weight department within |
| cancelled its country's central bank in the | | | | the central bank. It samples banks, on a periodic |
| nineteenth century because he did not think that | | | | basis. Then, it analyses their books thoroughly and |
| it was very important. But things have changed | | | | imposes rules of conduct and sanctions where |
| since. Central banks today are the most | | | | necessary. But the role of central banks in |
| important feature of the financial systems of | | | | determining the health, behaviour and operational |
| most countries of the world.Central banks are a | | | | modes of commercial banks is so paramount that |
| bizarre hybrids. Some of their functions are | | | | it is highly undesirable for a central bank to |
| identical to the functions of regular, commercial | | | | supervise the banks. As I have said, supervision |
| banks. Other functions are unique to the central | | | | by a central bank means that it has to criticize |
| bank. On certain functions it has an absolute legal | | | | itself, its own policies and the way that they were |
| monopoly.Central banks take deposits from other | | | | enforced and also the results of past supervision. |
| banks and, in certain cases, from foreign | | | | Central banks are really asked to cast themselves |
| governments which deposit their foreign exchange | | | | in the unlikely role of impartial saints.A new trend |
| and gold reserves for safekeeping (for instance, | | | | is to put the supervision of banks under a |
| with the Federal Reserve Bank of the USA). The | | | | different "sponsor" and to encourage a checks |
| Central Bank invests the foreign exchange | | | | and balances system, wherein the central bank, its |
| reserves of the country while trying to maintain | | | | policies and operations are indirectly criticized by |
| an investment portfolio similar to the trade | | | | the bank supervision. This is the way it is in |
| composition of its client - the state. The Central | | | | Switzerland and - with the exception of the |
| bank also holds onto the gold reserves of the | | | | Jewish money which was deposited in Switzerland |
| country. Most central banks have lately tried to | | | | never to be returned to its owners - the Swiss |
| get rid of their gold, due to its ever declining | | | | banking system is extremely well regulated and |
| prices. Since the gold is registered in their books in | | | | well supervised.We differentiate between two |
| historical values, central banks are showing a | | | | types of central bank: the autonomous and the |
| handsome profit on this line of activity. Central | | | | semi-autonomous.The autonomous bank is |
| banks (especially the American one) also | | | | politically and financially independent. Its Governor |
| participate in important, international negotiations. | | | | is appointed for a period which is longer than the |
| If they do not do so directly - they exert | | | | periods of the incumbent elected politicians, so |
| influence behind the scenes. The German | | | | that he will not be subject to political pressures. |
| Bundesbank virtually dictated Germany's position in | | | | Its budget is not provided by the legislature or by |
| the negotiations leading to the Maastricht treaty. | | | | the executive arm. It is self sustaining: it runs itself |
| It forced the hands of its co-signatories to agree | | | | as a corporation would. Its profits are used in |
| to strict terms of accession into the Euro single | | | | leaner years in which it loses money (though for a |
| currency project. The Bunbdesbank demanded | | | | central bank to lose money is a difficult task to |
| that a country's economy be totally stable (low | | | | achieve).In Macedonia, for instance, annual |
| debt ratios, low inflation) before it is accepted as | | | | surpluses generated by the central bank are |
| part of the Euro. It is an irony of history that | | | | transferred to the national budget and cannot be |
| Germany itself is not eligible under these criteria | | | | utilized by the bank for its own operations or for |
| and cannot be accepted as a member in the club | | | | the betterment of its staff through |
| whose rules it has assisted to formulate.But all | | | | education.Prime examples of autonomous central |
| these constitute a secondary and marginal portion | | | | banks are Germany's Bundesbank and the |
| of a central banks activities.The main function of a | | | | American Federal Reserve Bank.The second type |
| modern central bank is the monitoring and | | | | of central bank is the semi autonomous one. This |
| regulation of interest rates in the economy. The | | | | is a central bank that depends on the political |
| central bank does this by changing the interest | | | | echelons and, especially, on the Ministry of Finance. |
| rates that it charges on money that it lends to | | | | This dependence could be through its budget |
| the banking system through its "discount | | | | which is allocated to it by the Ministry or by a |
| windows". Interest rates is supposed to influence | | | | Parliament (ruled by one big party or by the |
| the level of economic activity in the economy. | | | | coalition parties). The upper levels of the bank - |
| This supposed link has not unequivocally proven | | | | the Governor and the Vice Governor - could be |
| by economic research. Also, there usually is a | | | | deposed of through a political decision (albeit by |
| delay between the alteration of interest rates and | | | | Parliament, which makes it somewhat more |
| the foreseen impact on the economy. This makes | | | | difficult). This is the case of the National Bank of |
| assessment of the interest rate policy difficult. | | | | Macedonia which has to report to Parliament. Such |
| Still, central banks use interest rates to fine tune | | | | dependent banks fulfil the function of an economic |
| the economy. Higher interest rates - lower | | | | advisor to the government. The Governor of the |
| economic activity and lower inflation. The reverse | | | | Bank of England advises the Minister of Finance (in |
| is also supposed to be true. Even shifts of a | | | | their famous weekly meetings, the minutes of |
| quarter of a percentage point are sufficient to | | | | which are published) about the desirable level of |
| send the stock exchanges tumbling together with | | | | interest rates. It cannot, however, determine |
| the bond markets. In 1994 a long term trend of | | | | these levels and, thus is devoid of arguably the |
| increase in interest rate commenced in the USA, | | | | most important policy tool. The situation is |
| doubling interest rates from 3 to 6 percent. | | | | somewhat better with the Bank of Israel which |
| Investors in the bond markets lost 1 trillion (=1000 | | | | can play around with interest rates and foreign |
| billion!) USD in 1 year. Even today, currency | | | | exchange rates - but not entirely freely.The |
| traders all around the world dread the decisions of | | | | National Bank of Macedonia (NBM) is highly |
| the Bundesbank and sit with their eyes glued to | | | | autonomous under the law regulating its structure |
| the trading screen on days in which | | | | and its activities. Its Governor is selected for a |
| announcements are expected.Interest rates is | | | | period of seven years and can be removed from |
| only the latest fad. Prior to this - and under the | | | | office only in the case that he is charged with |
| influence of the Chicago school of economics - | | | | criminal deeds. Still, it is very much subject to |
| central banks used to monitor and manipulate | | | | political pressures. High ranking political figures |
| money supply aggregates. Simply put, they would | | | | freely admit to exerting pressures on the central |
| sell bonds to the public (and, thus absorb liquid | | | | bank (at the same breath saying that it is |
| means, money) - or buy from the public (and, | | | | completely independent).The NBM is young and |
| thus, inject liquidity). Otherwise, they would | | | | most of its staff - however bright - are |
| restrict the amount of printed money and limit | | | | inexperienced. With the kind of wages that it pays |
| the government's ability to borrow. Even prior to | | | | it cannot attract the best available talents. The |
| that fashion there was a widespread belief in the | | | | budgetary surpluses that it generates could have |
| effectiveness of manipulating exchange rates. This | | | | been used for this purpose and to higher world |
| was especially true where exchange controls | | | | renowned consultants (from Switzerland, for |
| were still being implemented and the currency | | | | instance) to help the bank overcome the |
| was not fully convertible. Britain removed its | | | | experience gap. But the money is transferred to |
| exchange controls only as late as 1979. The USD | | | | the budget, as we said. So, the bank had to do |
| was pegged to a (gold) standard (and, thus not | | | | with charity received from USAID, the |
| really freely tradable) as late as 1971. Free flows | | | | KNOW-HOW FUND and so on. Some of the help |
| of currencies are a relatively new thing and their | | | | thus provided was good and relevant - other |
| long absence reflects this wide held superstition of | | | | advice was, in my view, wrong for the local |
| central banks. Nowadays, exchange rates are | | | | circumstances. Take supervision: it was modelled |
| considered to be a "soft" monetary instrument | | | | after the Americans and British. Those are the |
| and are rarely used by central banks. The latter | | | | worst supervisors in the West (if we do not |
| continue, though, to intervene in the trading of | | | | consider the Japanese).And with all this, the bank |
| currencies in the international and domestic | | | | had to cope with extraordinarily difficult |
| markets usually to no avail and while losing their | | | | circumstances since its very inception. The 1993 |
| credibility in the process. Ever since the | | | | banking crisis, the frozen currency accounts, the |
| ignominious failure in implementing the infamous | | | | collapse of the Stedilnicas (crowned by the TAT |
| Louvre accord in 1985 currency intervention is | | | | affair). Older, more experienced central banks |
| considered to be a somewhat rusty relic of old | | | | would have folded under the pressure. Taking |
| ways of thinking.Central banks are heavily | | | | everything under consideration, the NBM has |
| enmeshed in the very fabric of the commercial | | | | performed remarkably well.The proof is in the |
| banking system. They perform certain | | | | stability of the local currency, the Denar. This is |
| indispensable services for the latter. In most | | | | the main function of a central bank. After the |
| countries, interbank payments pass through the | | | | TAT affair, there was a moment or two of panic |
| central bank or through a clearing organ which is | | | | - and then the street voted confidence in the |
| somehow linked or reports to the central bank. All | | | | management of the central bank, the Denar-DM |
| major foreign exchange transactions pass through | | | | rate went down to where it was prior to the |
| - and, in many countries, still must be approved | | | | crisis.Now, the central bank is facing its most |
| by - the central bank. Central banks regulate | | | | daunting task: facing the truth without fear and |
| banks, licence their owners, supervise their | | | | without prejudice. Bank supervision needs to be |
| operations, keenly observes their liquidity. The | | | | overhauled and lessons need to be learnt. The |
| central bank is the lender of last resort in cases | | | | political independence of the bank needs to be |
| of insolvency or illiquidity.The frequent claims of | | | | increased greatly. The bank must decide what to |
| central banks all over the world that they were | | | | do with TAT and with the other failing |
| surprised by a banking crisis looks, therefore, | | | | Stedilnicas?They could be sold to the banks as |
| dubious at best. No central bank can say that it | | | | portfolios of assets and liabilities. The Bank of |
| had no early warning signs, or no access to all the | | | | England sold Barings Bank in 1995 to the ING |
| data - and keep a straight face while saying so. | | | | Dutch Bank.The central bank could - and has to - |
| Impending banking crises give out signs long | | | | force the owners of the failing Stedilnicas to |
| before they erupt. These signs ought to be | | | | increase their equity capital (by using their |
| detected by a reasonably managed central bank. | | | | personal property, where necessary). This was |
| Only major neglect could explain a surprise on | | | | successfully done (again, by the Bank of England) |
| behalf of a central bank.One sure sign is the | | | | in the 1991 case of the BCCI scandal.The State |
| number of times that a bank chooses to borrow | | | | of Macedonia could decide to take over the |
| using the discount windows. Another is if it offers | | | | obligations of the failed system and somehow pay |
| interest rates which are way above the rates | | | | back the depositors. Israel (1983), the USA (1985 |
| offered by other financing institutions. There are | | | | 7) and a dozen other countries have done so |
| may more signs and central banks should be | | | | recently.The central bank could increase the |
| adept at reading them.This heavy involvement is | | | | reserve requirements and the deposit insurance |
| not limited to the collection and analysis of data. A | | | | premiums.But these are all artificial, ad hoc, |
| central bank - by the very definition of its | | | | solutions. Something more radical needs to be |
| functions - sets the tone to all other banks in the | | | | done:A total restructuring of the banking system. |
| economy. By altering its policies (for instance: by | | | | The Stedilnicas have to be abolished. The capital |
| changing its reserve requirements) it can push | | | | required to open a bank or a branch of a bank |
| banks to insolvency or create bubble economies | | | | has to be lowered to 4 million DM (to conform |
| which are bound to burst. If it were not for the | | | | with world standards and with the size of the |
| easy and cheap money provided by the Bank of | | | | economy of Macedonia). Banks should be allowed |
| Japan in the eighties - the stock and real estate | | | | to diversify their activities (as long as they are of |
| markets would not have inflated to the extent | | | | a financial nature), to form joint venture with |
| that they have. Subsequently, it was the same | | | | other providers of financial services (such as |
| bank (under a different Governor) that tightened | | | | insurance companies) and to open a thick network |
| the reins of credit - and pierced both bubble | | | | of branches.And bank supervision must be |
| markets.The same mistake was repeated in | | | | separated from the central bank and set to |
| 1992-3 in Israel - and with the same | | | | criticize the central bank and its policies, decisions |
| consequences.This precisely is why central banks, | | | | and operations on a regular basis.There are no |
| in my view, should not supervise the banking | | | | reasons why Macedonia should not become a |
| system.When asked to supervise the banking | | | | financial centre of the Balkans - and there are |
| system - central banks are really asked to draw | | | | many reasons why it should. But, ultimately, it all |
| criticism on their past performance, their policies | | | | depends on the Macedonians themselves. |
| and their vigilance in the past. Let me explain this | | | | |