The Monetary Policy of the Eurosystem

• Author: Otmar Issing
• Position: Directorate of the Deutsche Bundesbank. He is now a member of the European Central Bank's Executive Board

On January 1, 1999, Europe entered a new era with the adoption of a single currency-the euro-by 11 of the European Union's 15 member states. In this article, a member of the European Central Bank's Executive Board describes the framework for conducting monetary policy in the euro area.

IN ACCORDANCE with the treaty signed in Maastricht on February 7, 1992, Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal, and Spain replaced their national currencies with the euro on January 1, 1999, based on conversion rates irrevocably fixed on December 31, 1998. In preparation for this moment, the 11 countries had implemented policies enabling them to achieve a high degree of economic convergence while putting in place the institutional and legal frameworks for conducting a single monetary policy-the task of the Eurosystem, which comprises the Frankfurt-based European Central Bank (ECB) and the national central banks of the 11 euro area countries.

The new structure

The ECB was established on June 1, 1998 (in succession to the European Monetary Institute, which had carried out preparatory work), together with the European System of Central Banks (ESCB)-which comprises the ECB and the 15 national central banks of European Union (EU) member countries. The Eurosystem is governed by two of the ECB's decision-making bodies-the Executive Board and the Governing Council.

The main task of the Executive Board, which consists of the ECB's president, vice-president, and four other members, is to implement monetary policy in accordance with the guidelines and decisions laid down by the Governing Council, by giving instructions to the national central banks. In addition, it is responsible for the current business of the ECB.

The Governing Council, which is responsible for formulating the single monetary policy and setting guidelines for its implementation, comprises the Executive Board and the governors of the national central banks of the 11 euro area countries. Each member has one vote. The president of the EU Council and a member of the European Commission can also participate in the meetings but do not have the right to vote. Most decisions, including those on monetary policy, can be taken by simple majority. However, votes for decisions that affect the positions of the national central banks as shareholders of the ESCB (for example, relating to the capital and the foreign exchange reserves of the ECB) are weighted by the share of each national central bank in the ECB's capital (the votes of Executive Board members are given a weight of zero).

So long as not all EU member states participate in the euro area, the General Council, the third decision-making body of the ECB, will govern the ESCB. It consists of the president and vice-president of the ECB and the governors of the national central banks of all 15 EU member countries. As the central banks of the EU countries that have not (yet) adopted the euro (Denmark, Greece, Sweden, and the United Kingdom) continue to pursue national monetary policies, they will not participate in decisions related to the single monetary policy for the euro area. They will, however, have the opportunity to discuss monetary policy issues and their exchange rate relations with the euro. In this context, the General Council contributes to the necessary preparations for fixing the exchange rates of the currencies of the four nonparticipating countries to the euro.

Objectives and tasks

The Statute of the ESCB is an integral part of the Maastricht Treaty. Article 2 of the ESCB Statute states that "the primary objective of the ESCB shall be to maintain price stability. Without prejudice to the objective of price stability, it shall support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community. . . . The ESCB shall act in accordance with the principle of an open market economy with free competition, favouring an efficient allocation of resources. . . ." This mandate...