The Evolving Role of Central Banks

11 Central Bank Independence in Austria

Patrick Downes, and Reza Vaez-Zadeh
Published Date:
June 1991
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I would like to discuss the evolution of central bank independence in Austria and how it functions today. I shall first give a short history as background and then describe the present state of the central bank. This will be followed by a description of the aims of the central bank’s independence.

A Short History

Maria Theresa, the great empress who reigned over Austria from 1740 to 1780, was considering the foundation of a central bank. In 1761, a draft was drawn up to set up a bank according to the model of the Bank of England, but it did not occur until half a century later, in 1816, after the Napoleonic wars. Napoleon had been warring with Europe, and his forces had been occupying Austria. During that occupation, French troops distributed a lot of counterfeit money. To stop the use of this money was an immediate objective of the newly founded Austrian National Bank. Austria was much bigger then than now, so it was not from Vienna that Emperor Franz I signed the edict for the foundation of the Austrian National Bank, but from Milano; already, the first central bank of Austria was given independence from the state. The prohibition to grant loans and credits to the state followed later.

History brought many changes to the country, the economy, the currency, and, of course, to the central bank. In 1878, after the agreement between Austria and Hungary, the “Privileged Austrian National Bank” changed its name to the “Austrian-Hungarian Bank”; its independence remained unaffected. After World War I, the Austrian-Hungarian Bank had to be liquidated in 1919, according to the peace treaties. After the end of the war and postwar inflation, which brought about a grave devaluation of the currency, the Austrian National Bank resumed its activities in 1923. The year after, the currency was changed by law from the crown to the schilling. In 1938, another deep inroad was made in the history of Austria. The schilling was abolished by German occupation authorities and the reichsmark was imposed forcefully at the rate of 3:2. A decree to liquidate the Austrian National Bank was issued, but this liquidation was not finished until the war ended.

Austria regained its independence in April 1945, and the Austrian National Bank resumed its activities. Another law was passed, and the statutes of the Austrian National Bank were adjusted to the extraordinary circumstances of the immediate postwar times. The most important task of the Austrian National Bank in 1945 was to prepare the reintroduction of the schilling currency and to reduce the money circulation, which was much higher than production. The first Austrian parliament passed a law in November 1945 that changed reichsmark into schilling at a rate of 1:1, but one could get only a maximum of 150 schillings per person in cash, whereas remaining assets were credited to accounts, which one could not dispose of without permission. The currency reform of 1947 got rid of the surplus money in circulation, and from 1947 to 1951 there were five price income contracts. By these contracts, which started the successful “Sozialpartnerschaft” (Social Partnership), the danger of inflation could be restricted.

The Austrian currency was stabilized in 1952 by a number of budgetary, fiscal, and monetary measures, which provided the foundation for the further economic development of Austria. In the 1950s, a gradual liberalization and the National Bank Act of 1955, passed after the State Treaty had been signed, set up a new legal frame for the Austrian National Bank. This law of 1955 contained also the necessary modern instruments for monetary policy to enable the Austrian National Bank to function from then on not only as guardian of the currency but also as lender of last resort. The Bank Act of 1984 contained and repromulgated all the amendments that had been passed since 1955.

The Present Situation

The general provisions of the National Bank Act of 1984 stipulate that the Austrian National Bank is a joint stock company, that it has the function of regulating the circulation of money in Austria and of attending to the settlement of payments with foreign countries. It has to ensure with all the means at its disposal that the value of the Austrian currency is maintained with regard both to its domestic purchasing power and to its relationship with stable foreign currencies. The general provisions also stipulate that the Austrian National Bank is under obligation to ensure within the framework of its credit policy that the credits it places at the disposal of the economy are distributed with due regard to the country’s economic needs.

The Austrian National Bank is free to participate as an organization and financially in international institutions that are concerned with cooperation between central banks or which otherwise aim and promote international cooperation in the field of monetary and credit policy. The Bank, in its own name and on its own account, may also take part in any measures or operations undertaken by such institutions in which a participating interest is held by it or by the Republic of Austria.

Article 4 of the Act reads as follows:

In determining the general lines of monetary and credit policy to be followed by the Austrian National Bank in this field for the purpose of performing the functions incumbent upon it, due regard shall be paid to the economic policy of the Federal Government.

This Article 4 in connection with Article 21, which entrusts the Governing Board with outlining the general directives of monetary and credit policy, safeguards the independence of the Bank. If the Governing Board feels impeded by the Government’s supervision or if there is an infringement of any of the prohibitions for the Federal Republic “Länder,” and local authorities, the Governing Board as a whole or any individual member of the Board may appeal to an Arbitration Tribunal, which has to give a final decision within three days. According to Article 40(4) the Arbitration Tribunal shall be composed of the President of the Supreme Court, who shall preside, and four members, two of whom shall be appointed by the Federal Government and two by the bank.

As said before, the Austrian National Bank is a joint stock company, though sui generis. Half of its capital according to Article 9 is subscribed by the Federal Republic, and the Federal Government has to decide what persons and enterprises are permitted to subscribe the remaining capital of the bank. In fact, these “private” or rather non-state shareholders represent the main economic factors and institutions, such as industry, trade and commerce, the employers’ chamber, trade unions; in short, they are representative of Austrian Sozialpartnerschaft.

Let me dwell a little on this Sozialpartnerschaft, which has become a trademark of Austria. At first, it might sound like a deviation from market economy: representatives of the Employers’ and the Employees’ Association, together with representatives of the Chamber of Agriculture, form an extraparliamentarian body and sit down to discuss macroeconomic problems. What is the essence? It is not more, but also not less, than shared information about objective economic and social facts. What is the result of such equal, although not always undisputed, information? I am tempted to answer that it is a convergence of policy re prices and wages and therefore it is stability instead of fights, the prey of which are usually the weak ones. Let me say, as an aside that the price of this Austrian kind of stabilization has been a slower restructuring and modernization of the economy. Let us hope that countries envisaging the introduction of market economy may hear the message and be able to combine the best of both experiences.

Capital ownership is also reflected in the Governing Board, which consists of the governor, two deputy governors and eleven other members; six are elected by the Bank’s General Meeting; the other five are appointed by the Federal Government. Not more than four active bankers are permitted on the Governing Board; there are no civil servants or members of government and legislative bodies. The governor is appointed by the President of the Federal Republic, the two deputy governors by the Federal Government. The term of office is five years for all; no dismissal is possible, except when the requirements for the appointment are no longer met or the member is prevented for more than a year to perform his or her duties. Five years is the maximum term for officers in joint stock companies in Austria—a sensible period that gives enough leeway to make the appointment successful and should it be inappropriate, the end of the term is in sight. It should also be understood that the governor, as the way of appointment signifies, should feel responsible to the general public. The governor is independent, but accountable, not to Parliament, not to the Government, but to the general public who also, according to the Austrian Constitution, elects the President of the Federal Republic. I am sure the delicate balance between independence and accountability will concern also the authorities who are entrusted with finding viable solutions for European monetary union and a European central banking system.

The Governing Board is charged with the supreme direction of the Bank, not only with the supervision of the Board of Executive Directors, a maximum of six persons, who are responsible for the overall running of the Bank in accordance with the law and the directives issued by the Governing Board.

Another provision of the Act that allows central bank independence is Article 42. The article expressly states, that no transaction may involve the granting of any loan or credit by the bank to the Federal Republic. Nothing of that kind must happen, not even in disguise. All these provisions are safeguards for the Austrian National Bank’s independence.

Aims of Independence

What are the aims of independence? Clearly, stabilization is the principal aim of the Bank’s independence and also, of course, its principal concern. Primary responsibility of the central bank is the maintaining of the value and purchasing power of the Austrian currency. This task dominates other economic goals as for example full employment or economic growth. When Article 4 of the National Bank Act says that the Austrian National Bank has to pay due regard to the economic policy of the Federal Government, this quite clearly expresses that the Government’s economic policy should not be counteracted. But it also implies that the Austrian National Bank may participate when economic policy is formulated. Laws concerning economic matters have to be appraised by the Austrian National Bank. I would also like to emphasize that the Austrian National Bank has always made it quite clear that a consistent budget and wage policy in line with the exchange rate strategy is vital. Of course, the Austrian National Bank has a vital interest in full employment, in economic growth, in international compatibility, and in competitiveness of the Austrian economy. It has no direct instruments to pursue such real economic goals, but its policy aim is to create stable and predictable conditions for the economy and for the business community.

But human beings are not purely rational, they have hopes and fears, and their economic behavior reflects their experiences. Since the last century Austrians have experienced wars, the collapse of the Austro-Hungarian Empire, several runaway inflations, occupations, and loss of currency and state. History has taught my people to save, after World War II, perhaps not so much in order to get rich, but to provide for times of need. Saving in Austria is now nearly four times as high as the federal budget.

This would not have happened without the deep belief of the society that stability makes it worthwhile to work hard, to save, and to spend reasonably. The confidence in a policy of stability, a hard and well-funded currency that the man on the street realizes and cherishes when traveling abroad, lends strength also to the Austrian National Bank, which is seen as an independent guarantor of the strong schilling with beneficial effects for all.


Let me turn now to the final remarks. What are the instruments to achieve the goals of stability? You all know that the Austrian National Bank stabilizes the Austrian schilling exchange rate by pegging it to the deutsche mark. Switzerland and Germany have flexible exchange rates with monetary aggregates as their nominal anchor. Price stabilization in those two countries is achieved by monetary growth rules. Let me be quite frank, Austria’s foreign trade would go to, say, the United States or the United Kingdom to the same extent as it goes to Germany, and were the currencies of the United States and United Kingdom as stable as the deutsche mark, Austria would have pegged to the U.S. dollar or the British pound. The deutsche mark was chosen purely in conformity with trade relations and stability—an example followed by various European countries for similar reasons.

By the mechanism chosen, it is not possible to control the monetary supply over a longer period. The Austrian National Bank determines the proportion of domestic and foreign assets serving as cover for the money in circulation by expanding the domestic source component by more or less than the increase in the demand for money. This means that official reserves are controlled via the domestic source component. This way stability is imported, given the anchor’s stability. The policy taken also provides that nominal wage settlements are moderate. Together this helps fight inflation. This is even more important as the European countries in the European Community (EC) try to create a zone of stability in Europe. Austria is taking part in this stabilization program and also in its success without being a member of the EC so far.

The published goals of Austrian monetary policy have remained unchanged in the past few years. Since the 1970s, monetary policy decisions in Austria have focused on holding the exchange rate of the schilling stable against the deutsche mark. This leads to optimal macroeconomic stabilization effects, as well as to a high degree of stabilization of positive expectations.

We continue to regard exchange rate policy as the optimum monetary policy approach for Austria. This also holds true in view of the alternatives that are likely to be discussed within the framework of European integration. The liberalization of financial markets, however, calls for far-reaching harmonization of the legal framework. A new stock exchange law took effect in Austria in 1990. The “Capital Market Law” is in preparation. It will create a new legal basis for the public offering of securities and other financial investment instruments. The Banking Supervision Law and the Banking Law will have to be adjusted in line with EC developments. The central bank’s tasks will increasingly focus on ensuring efficient financial markets as well as on monitoring and control functions, in particular with a view to minimizing risks associated with the system of highly integrated financial markets.

The outline of the future European monetary system points to radical changes in the role of the Austrian central bank should Austria join the EC. The Austrian economy, however, will hardly be affected by this “change in paradigms,” because it will benefit from the exchange rate strategy which Austria has been pursuing for a number of years. The extension of the optimum currency area will even facilitate economic decision making. Whether international economic policy can be better harmonized and exchange rate expectations further stabilized will depend on the methods of economic policy coordination.

Considering the present situation, it can be said that Austria is further downstage than most members of the exchange rate mechanism (ERM): minute fluctuations of the schilling against the deutsche mark, concurrence of fundamentals, and liberalization of capital movements.

The Austrian central bank cannot pursue direct money supply targets because it has chosen the exchange rate as an intermediate monetary policy goal (and because of the need for intervention this choice entails). Changes in the central bank money stock are determined by the demand for money. In principle, it would be possible to publish a subordinate, adaptive money supply target announced in the form of a band definition along with the exchange rate target; however, this could dilute the predictability of central bank policy. We base our reasoning on the concept of a “reverse causality” of money resulting from the endogenous determination of the money supply. This concept consists of influencing the source of money creation (domestic or foreign source component); the objective for the Austrian National Bank’s foreign exchange balance is to conform with the objective of the exchange rate strategy. Clear guidelines govern the application of the domestic and foreign source components; in essence, these guidelines are determined by the actual and expected developments on the foreign exchange market (use of the domestic source component of central bank money creation only if the size of our change in the foreign exchange balance permits, use of the foreign source component otherwise).

This money supply concept would not require any changes in the event that Austria formally participates in the European Monetary System, provided the exchange rate goal continues to be used as a policy base and as long as there is no obligation to announce a national money supply target. Since the Austrian National Bank also regularly ascertains the internationally common monetary indicators, the “concurrent” announcement of an aggregate like the money supply target would not represent a problem in principle, if such a procedure should be compulsory within the framework of international monetary cooperation. Many facts seem to indicate, however, that within the framework of an exchange rate link, such as the one between the schilling and the deutsche mark, the money supply developments of the key currency country are for all practical purposes imported, especially insofar as (under the condition that payment habits are comparable) the money supply of the “key currency country” should be in line with the demand for money in the other economies of the exchange rate zone, as a result of the required harmony between the fundamentals of the countries orienting their exchange rate toward the deutsche mark and Germany.

Interest rate policy is hardly independent, not only because of the exchange rate goal but also because of the liberalization and globalization of financial markets. The process does not operate in a purely mechanical fashion; institutional and structural peculiarities may result in temporary deviations (e.g., Austrian overnight money rates will fluctuate more than comparable rates in Germany because the Austrian market is thinner than the German one). Nor does the international connection imply that there is only one equilibrium interest rate in each case or that the system converges toward this rate; even if the market for a specific financial service can be determined precisely, an interest rate structure can and will develop on account of the regional differences of economic variables and their effects on the demand for capital and on account of the differences in how well developed financial markets are, what the extent of an economy’s savings formation is, and whether a country is a net importer or an exporter of capital.

Against this background, the Austrian National Bank pursues an exchange rate policy without explicitly formulating a concrete exchange rate target; rather, it pursues an implicit target aimed at minimizing exchange rate fluctuations. What is important—with a view to both short-term reactions by exchange dealers and long-term developments on capital markets—is that market participants’ expectations are stabilized. “Exchange market intervention” is pursued beyond the scope of its conventional meaning, as it includes all measures designed to minimize fluctuations of the schilling-deutsche mark exchange rate (which also encompasses measures under the heading of capital import policy, such as the timing of the Federal Government’s capital imports). According to this concept, the money market rate is to be considered an intermediate objective controlled by means of direct interest rate policy measures (key interest rates, open market interest rates), liquidity policy measures (use of the domestic or foreign source components of money supply creation), or by forgoing such measures. A logical consequence of the concept is that general interest rate policy measures (in particular the central bank’s key interest rates) are in line with steps taken internationally, especially in Germany. In practice the technical instruments differ slightly from those used abroad. Unlike Germany, Austria does not resort to a tender procedure for banks’ basic refinancing: Austria has a limited special open market refinancing facility, swap instruments are used more frequently, and the minimum reserve obligation is not identical with that abroad.

Specific macroeconomic factors represent important framework conditions for this exchange rate policy. In this connection, the central bank monitors particularly the development of relative labor costs compared with those of trade partners, price indices, structural changes in the current account, and the Federal Government’s budget management. Recently, other factors have come to the fore, especially because capital transactions and financial services have been liberalized: the international competitiveness of banks, insurance companies and the stock market, efficient financial markets, effective and internationally coordinated supervisory structures.

Reserves of the Bank have grown in the last years. Interest rates are linked to the deutsche mark. By fine-tuning the interest rate differential, the Austrian National Bank is able to influence the official reserve position. Inflation in the country was around 3.2 percent in August 1990. Full employment is achieved if one takes into account that an unemployment rate of roughly 5 percent is also the balance of more than 100,000 immigrants that have come within the last year from Eastern European countries.

Monetary policy is ultimately a government responsibility. In Austria, the Parliament entrusted the Austrian National Bank with the power to conduct monetary policy. Stability is the aim and the result; independence and accountability to the public are the necessary means to conduct this policy.


The author is Governor of the National Bank of Austria.

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