Current Legal Issues Affecting Central Banks, Volume III.

15B. The Swedish Central Bank

Robert Effros
Published Date:
August 1995
  • ShareShare
Show Summary Details


The relationship between a country’s central bank and its government and parliament is a topic of intense and continuing discussion around the globe. The central bank’s position is traditionally analyzed in terms of its independence from these two branches of government. A great deal has been written on this subject, and recent work conducted in many countries on new central bank legislation, together with work on the European Central Bank, has added fuel to the debate. It is therefore natural to discuss the Swedish central bank’s position from an international perspective. In the following discussion, the Swedish central bank is primarily compared with the other central banks of member countries of the Organization for Economic Cooperation and Development.

Special Position of the Central Bank

The Swedish central bank, founded in 1668, is the oldest central bank in the world. The Bank of England was established 26 years later. Today, there is a central bank, or a similar institution, in virtually all countries. They differ in several respects, but certain characteristics are common among them: a monopoly in issuing bills, the duty of carrying out monetary and exchange rate policy, and the administration of currency reserves. In many countries, although not in Sweden, the central bank is also responsible for the supervision and monitoring of banks and other financial institutions.

In Sweden, the central bank came into serious conflict with the King, almost immediately after its creation. Parliament had taken over the charter, which the King had given to the founder of the bank. During the European war of 1675–79, the bank refused, on several occasions, to extend credit to the King for the financing of the war. Parliament protected its bank, and the King was eventually forced to yield.

This is an illustrative example of the central bank’s position. It became an essential matter early in the history of central banking. How much should the bank cooperate in the financing of public expenditures? What responsibilities should the central bank have for the value of the currency? Who should answer for exchange rate policy and the investment of the reserves? In other words, how should power be shared among the central bank, the government, and the parliament?

Reasons for Central Bank Independence

Current discussion focuses more on the question of how a central bank’s position can contribute to the credibility and long-sightedness of economic policy. The time horizon of economic policy tends to be all too brief, owing to political considerations. By delegating certain parts of economic policy to a central bank and giving it independence, confidence in the long-sightedness and consistency of economic policy can be strengthened; consequently, the economy will function better. The discussion has also focused on the rules for stabilization policy. This was intensely debated when the statutes of the European Central Bank were formulated, according to which the ECB will have clear objectives and considerable independence.1

How should the degree of independence of the central bank be measured? The key issue is, arguably, who determines monetary and exchange rate policy. If the government has the power to formulate these policies, then it cannot be said that the central bank is independent, regardless of how much latitude the bank has in implementing these policies.

Power to Formulate Policy

The central banks in the United States, Switzerland, and Germany are typically cited as examples of banks that command a considerable amount of power in formulating monetary policy. In some other countries, the central bank’s role is limited to the implementation of policy. Between these two extremes, there is a great deal of variation in the policymaking power of central banks.

Even in countries where the government has the right to give instructions to the central bank, the central bank may have a rather strong position. Such a rule may compel the government to choose between making public a possible conflict with the central bank or renouncing its claim. Therefore, those countries may form a special case.

Formal instructions are rare, but it is not uncommon for the central bank and the government to consult with each other. In practice, no central bank is completely autonomous. In both Switzerland and Germany, cited by many as examples of independent central banks, the law requires such consultations.2 In the Bundesbank’s statutes, the way in which these consultations should be carried out is prescribed in detail.3 In neither country can the government give direct instructions to the central bank. In Germany, however, the government can delay a decision by the bank’s board for two weeks.4 It may be added that the consultations are not onesided. In both countries, the government is also required to consult with the central bank.

In Sweden, the government is responsible for overall economic policy. The central bank must consult with a cabinet member, appointed by the government, before making important decisions about monetary policy.5 While the central bank’s monetary policy should be coordinated with the government’s economic policy, it is clear that the bank is merely required to consult with the cabinet member. After consultation, only the central bank has the authority to make the final decision about any monetary or exchange rate policies. Unlike most central banks, the Swedish central bank has the authority to decide on the appropriate system for establishing the value of the krona in relation to foreign currencies and to determine the application of such a system.

In this sense, it may be argued that the Swedish central bank has a more independent role than that of central banks in many other countries. Unlike the Swiss and German laws, however, there is no requirement that the government consult with the central bank.6 Nevertheless, the government does consult with the bank, particularly before taking any decisions that have implications for monetary or exchange rate policy.

Power to Implement Policy

It is interesting to note that central banks normally have more freedom to formulate and implement monetary policy than exchange rate policy. This may often be explained by historical circumstances, insofar as the government often controlled exchange reserves. However, some central banks are severely restricted even in the implementation phase of exchange rate policy. The choice of instrument is an important factor in the implementation of monetary policy. In some countries, the central bank needs governmental approval to use certain instruments.

The power to formulate and implement policies is often called functional independence. In addition, independence should be considered in terms of the power to make appointments and the right to claim funding for its operations.

Power to Make Appointments

One important factor, often underestimated in the discussion of a central bank’s independence, is the power to make appointments. It is often shared by the government and the central bank; in many cases, the parliament also plays an important role.

The governor of the central bank is normally appointed directly or indirectly by the government. Sweden is one of the exceptions. In Sweden, he or she is appointed by the bank’s board of governors.7 The government also often has the power to appoint individuals to other positions. One may note that at the Bundesbank not only the governor and the deputy governor but eight members of the directorate are appointed by the government.8 High-level executives at the Swiss National Bank are also appointed by the government.9

The term of office is another important factor bearing on central bank independence. Normally, the governor sits for a term longer than that of the government. In some cases, such as in Finland, Denmark, and Italy, the term is not set.10 In Sweden, the governor has a five-year term of office that can be renewed.11 In the national central banks that will make up the European System of Central Banks, the governor’s term of office may not be less than five years.12

The members of the governing board are often appointed by the government. However, there are exceptions, such as Denmark, where eight members are appointed by the Danish Parliament.13 In Sweden, there is a similar arrangement, probably because the central bank in Sweden, similar to that in Finland, is an institution under the parliament, not under the government. In Sweden, seven members are appointed by the parliament.14 These members then appoint the eighth member of the governing board, the governor.15 In most countries, the governor is usually the chairman of the governing board as well. The Swedish governor may not, however, be appointed chairman or vice-chairman.16

Power over Its Own Financial Resources

Another important factor in a central bank’s independence is its power over its own financial resources. A central bank that does not possess the high level of competence necessary to gain the trust of the financial system cannot accomplish its duties in a satisfactory manner. Such a bank would be in a weak position when dealing with the ministry of finance and with other central banks. Only a few central banks operate in restrictive circumstances; many central banks have a great deal of freedom in allocating their financial resources as they see fit. The Swedish central bank belongs to this last category. It determines its own budget and merely informs the Swedish Parliament.

This relative independence regarding financial resources may be explained by the fact that central banks, unlike other public institutions, often generate considerable profits. Nevertheless, central banks are not generally allowed to retain all of their profits. According to established practices, the Swedish central bank pays the Treasury 80 percent of its profits each year, calculated as the average for a five-year period.17

Objectives of the Central Bank

The objectives of the central bank have been the center of much international debate. In fact, this issue has stirred more interest than the other questions previously mentioned. Some central banks have a clear statement of their objectives outlined in their laws or statutes. The Bundesbank is one example. The law states that the overarching objective is to “safeguard the currency,” or maintain monetary stability.18 Another example is the European System of Central Banks (which will comprise the European Central Bank and the national central banks), and yet another one is the central bank of New Zealand;19 both are enjoined to maintain price stability.

In many countries, no macroeconomic objective has been expressed at all. In others, for example, the Swiss and U.S. central banks, a number of objectives have been enumerated but not ranked.20 The objectives are sometimes so vaguely formulated that they provide little effective guidance for the operation of the bank.

The reason why the subject of macroeconomic objectives has captured so much attention in the literature is explained by the inverse correlation suggested by a number of studies between the degree of independence of the bank and the rate of inflation.

Final Observations

Two questions come to the forefront in discussions about the independence of central banks. First, to what extent can independent central banks actually carry out better economic policy and so improve the performance of the economy? The second question concerns the degree of democratic control over the bank, which is a matter of principle.

Independence and Improving the Economy

According to some empirical studies, a relationship seems to exist between strong and independent central banks and lower rates of inflation. Because of measurement problems, however, it is difficult to judge the results. In addition to difficulties connected with measuring the actual degree of independence, there are also uncertainties about the actual causality.

Could a country’s low inflation rate not be explained by factors other than the degree of independence of its central bank? It is interesting to note that the three central banks often singled out as examples of independent central banks belong to countries where the public aversion to inflation is particularly intense and deeply felt. It seems likely that, regardless of the independence of their central banks, anti-inflationary programs and measures would be supported more easily and implemented with less difficulty in those countries than in others. (Another factor, which is more difficult to evaluate and possibly only coincidental, is that they belong to countries with federal governments.)

Would not a well-defined objective for the bank’s operations reinforce the public’s confidence in the central bank, by strengthening belief in the bank’s independence? It can be said that, in principle, clearly expressed objectives provide the management of the bank with some protection against outside pressure. At the same time, they may act as a threat to bank management, which may be either unable or unwilling to carry out a policy to attain the objective. The objectives for the European System of Central Banks seem to be well defined and able to serve such a purpose.21

Democratic Control

In Sweden, as in many other countries, there is a debate over the question of democratic control of the central bank. How can a central bank be controlled democratically if left completely independent? In these discussions, the completely independent central bank is often compared with the completely dependent bank. The problem is that no such extreme case exists. No central bank can follow a policy contrary to political opinion indefinitely.

A central bank’s position is not set once and for all. There are many factors that determine its position. The legal framework is not unimportant, of course, but it may be less important than some observers would like to think. Other factors are also important. The bank’s competence plays an important role, as do the political and economic conditions of the country. Even the personalities and the relationship between the executives of the bank and the ministry of finance are important.

Sweden is not the only country where the parliament appoints the bank’s governing board (except the governor). However, Sweden is the only OECD country to have membership of its board divided along political lines (except for the governor).22 After each general election for Parliament, the members of the governing board are appointed. In this manner, changes in public opinion are immediately reflected in the composition of the governing board. The board can therefore be described as responding to a parliamentary system. If, in a general election, the public clearly demonstrates that it wants a change in the economic policies governing the country, this desire, it is argued, can be reflected immediately, not only in fiscal policy but also in monetary and exchange rate policies.

In many other countries, a different arrangement exists. The members of the governing board have no political mandate. Their terms do not coincide with the term of parliament. The central bank has to gain democratic agreement by winning support for its policies, both in public opinion and in parliament. It must rely on the cogency of its arguments. If it is unsuccessful, the management of the bank cannot remain in its jobs.

The parliamentary system of central bank control in Sweden is explained by deeply felt traditions. However, an alternative would not necessarily imply less democratic control. If the Swedish Parliament were willing to reduce the extent of its control, there would seem to be no major argument to prevent another arrangement, if deemed appropriate.

Therefore, the laws and statutes governing central banks should be formulated with due consideration to the political environment in each country. An independent central bank need not imply an absence of democratic control.

    Other Resources Citing This Publication