The Rise of Central Banks: State Power in Financial Capitalism

by Leon Wansleben

A bold history of the rise of central banks, showing how institutions designed to steady the ship of global finance have instead become as destabilizing as they are dominant.

While central banks have gained remarkable influence over the past fifty years, promising more stability, global finance has gone from crisis to crisis. How do we explain this development? Drawing on original sources ignored in previous research, The Rise of Central Banks offers a groundbreaking account of the origins and consequences of central banks’ increasing clout over economic policy.

Many commentators argue that ideas drove change, indicating a shift in the 1970s from Keynesianism to monetarism, concerned with controlling inflation. Others point to the stagflation crises, which put capitalists and workers at loggerheads. Capitalists won, the story goes, then pushed deregulation and disinflation by redistributing power from elected governments to markets and central banks. Both approaches are helpful, but they share a weakness. Abstracting from the evolving practices of central banking, they provide inaccurate accounts of recent policy changes and fail to explain how we arrived at the current era of easy money and excessive finance.

By comparing developments in the United States, the United Kingdom, Germany, and Switzerland, Leon Wansleben finds that central bankers’ own policy innovations were an important ingredient of change. These innovations allowed central bankers to use privileged relationships with expanding financial markets to govern the economy. But by relying on markets, central banks fostered excessive credit growth and cultivated an unsustainable version of capitalism. Through extensive archival work and numerous interviews, Wansleben sheds new light on the agency of bureaucrats and calls upon society and elected leaders to direct these actors’ efforts to more progressive goals.

Genres: Economics, History, Finance, Banking, Nonfiction

352 pages, Hardcover

Published January 10, 2023

Reviews

[Brecht Rogissart · Rating 5 out of 5]

I absolutely loved reading this analysis of central bank policy and financialisation of Western economies since the ‘70s. The author has clearly worked non-stop on the topic for a long time (since 2013), and as he indicates himself, has constantly revised his own hypotheses, included more material, and eventually constructed an incisive framework that changed my way of thinking about central banks profoundly.

First of all, Wansleben has clearly thought a lot about public and private power in capitalism, as well as structure and agency. Initially, back in 2013, he wanted to do a historical, ethnographic research of central bank policy since the ‘70s. Coming from Social Studies of Finance, where performativity-theory reigns, he wanted to investigate how central banks monitor and exert power over finance by producing knowledge and “performing” financial behaviour. While researching, however, he bumped into the limitations of these studies: some policies could be “performed”, others couldn’t. It pushed him to think deeply about structural constraints of public policy in financialised capitalism, in which he eventually started theorising about capitalism as a whole, its checks and balances, and why this results in certain strategies working while others wouldn’t, and how eventually monetary policy and money markets co-influence each other. Market dynamics can make certain policies ineffective, while central banks will adapt accordingly to retain their infrastructural power. While doing so, central banks again allow and restrict certain developments on financial markets, together co-constituting “financialised” capitalism.

This brings me to the second smart setup of his framework, the approach of “incorporated comparison”. He essentially studied the policies of four central banks since the ‘70s: the Bank of England, the Fed, the Swiss central bank, and the West-German Bündesbank (followed by the ECB). He categorizes them in two groups. First, the Swiss and German central banks (I’ll use “the continentals” here), that grew from a political economy of strong corporatism, integrated banking (national banking sector with limited actors), and close banking-industry ties. Second, the Anglo-Saxon countries, that had to deal with the ‘70s crisis with a more liberalised and financialised economy, with less overall dialogue over economic policies (for example, in wage-setting). The comparison between these two groups allow to discern the structural limitations and possibilities within each constellation. At the same time, the comparison is “integrated”. The four banks were dependent upon each other, and one’s actions, that would for example allow for massive financial growth, would influence the structural constraints of the others. In essence, he shows how these two categories blurred over time and had become homogeneous at the turn of the century: all central banks were now operating in a highly mobile, financialised economy, and adopted similar policies to guide them.

The beauty of the book is also the clear red line throughout the chapters, which makes it easy for me to summarise the argument by just summarizing every chapter. In chapter 2, he explains why the continentals were able to implement monetarism early on in the ‘70s and tame inflation, and why the Anglo-Saxon countries tried to, but failed. Monetarism explains inflation by blaming central banks that they have expanded the monetary aggregate too much. This assumes that central banks in fact control this monetary aggregate. For the continentals, this was the case: their interest rate policy and power over integrated banking gave them control over private credit creation. In addition, state-led wage-policies and restricting public expenses were used to adapt inflation expectations. All this was planned out between the different levels of society, which was possible in these countries. This was not the case for the Anglo-Saxon countries. There, banks had already started more active liability management and were entangled in international markets where credits were created. The central banks had no influence over the monetary aggregate. It’s funny how both British socialists under Callaghan and Thatcher afterwards tried to implement monetarist policies, with no success. The banks were simply not interested and knew that the BoE’s policies couldn’t predict and master inflation. Monetarism couldn’t be performed. Brilliant approach if you ask me.

Chapter three then turns to the innovation of Anglo-Saxon countries to defeat inflation. As “practical monetarism” didn’t work for them, their central banks had to innovate to get a grip on money markets. Volcker did so “by accident”, by extremely focusing on inflation expectations and forcing them to align with the central bank’s wish. Instead of relying on models that would try to predict the monetary aggregate and align interest rates accordingly, he targeted inflationary expectations immediately. By looking at policy effectiveness “through the eyes of a trader”, he realised that he had to do something majestical to adapt trader’s expectations, making them believe that inflation would be over, which would then be “performed” by the traders. The Volcker shock was done. And it worked: Volcker introduced “inflationary targeting”, subtly different from “practical monetarism”, because it is a new strategy that works well for market-based finance. Through creating reports on inflation, targeting what the bank would have to do to get the right level of inflation, and clearly communicating about these goals, financial markets would act accordingly. Through price signals, the Fed now hoped to guide markets. But, importantly, its policies were now dependent on highly integrated, liquid financial markets. Their infrastructural power was safe again in the new era of financialisation. The Bank of England watched, learned, and implemented the same strategy.

Chapter four and five then analyses the spread of “inflation targeting” to the continentals and its growing importance. As the US and BoE had now found a way to ‘manage’ large financial markets, they allowed them to expand. This affected the continentals profoundly, who now saw their “practical monetarism” failing. Funny enough, their central banks actually opposed liberalisation and financial innovation in the ‘80s, because it endangered their infrastructural power (which had proven to be quite effective for taming inflation!). Sadly, the genie was out of the bottle. They were now increasingly forced to adopt the Anglo-Saxon model, but it took a while! Once adopted, all four central banks were quite enthusiastic about their new policies. In effect, inflation targeting in market-based finance gave the central banks an effective policy tool, as well as large infrastructural power. Financial markets were increasingly looking at the central banks to guide their behaviour. The more markets, the more power! And so they not only liberalised, but also helped institutionalising new markets, in which the repo-market would become a central one.

The last chapter, on QE in the post-2008 era, does not have a clear structural framework as the other chapters had. The privilege of historical distance hasn’t transpired here yet. Still, from the build-up of his long history, he can make a strong argument that central banks and financial markets are strongly intertwined now. This is a problem: it has also created a lot of crises and liquidity problems, that now seem endemic. Meanwhile, central bankers have no other option than to prop up the system: their policy tools and credibility depends upon them. While they have a large infrastructural power over finance, they are inextricably linked to the dynamics of “mature” market-based finance. And so they inject round after round.

At last, this last chapter is, according to me, a powerful framework to both understand and criticise MMT-proposals. MMT is a progressive alternative for central bank policy. It springs from the frustration that money can be created from thin air for financial markets, while austerity is imposed on the rest. It should not surprise us that some progressive theorists propose to take the infrastructural power of central banks and politicize it for good ends. However, this history has shown us that this infrastructural power is “granted” to the central banks by the markets and for the markets. Their tools are only effective in so far as they engage with financial markets, and also serve financial markets. In conclusion, in order to tame finance, no magic, easy-fix policy is available. Only a broad leftist movement that aims to make broad changes on different levels of economic policy will work.

[Jordi Schröder · Rating 4 out of 5]

This is a well-researched book with a strong multidisciplinary focus. It starts from the premise that central banks are very particular policymaking institutions, that occupy a space between financial systems and states. The book highlights the pivotal role of the financial sector in central bank operations and explores how this privileged position grants it infrastructural power. One of its strengths is that it escapes the functionalist perspective that can be found in much of the central banking literature, which portrays central banks as acting solely in the interest of specific groups. Contrary to these functionalists narratives, Wansleben explains how interests were often unclear and contradictory, especially during crisis periods. Central bankers found themselves navigating uncertain terrain, responding to crises of governability and proposing alternative institutional answers to macroeconomic coordination issues. Central bankers sought conditions under which they could claim policy success so as to leverage their power within the state.

The now quintessential inflation-targeting central bank rose to prominence through policy experimentation, utilising finance as an infrastructural vehicle for governance. Contrary to monetarism, which needed corporatist institutions and a simple financial system to function, the inflation-targeting framework was the result of central bankers using financialisation on their own favour. Thus, central bankers emerged as the clear winners of financial globalisation. The in-depth study of the entanglement between central bankers and the financial system, achieved through a thorough analysis of central bank operations, undoubtedly stands out as the major strength of the book.

However, I do think that the book comes with certain shortcomings. Wansleben defends that the hard-money view of central banks, one in which they act as a deflationary force, does no longer hold in present times. He goes as far as to defend that central bankers have come to “embrace the objectives of maximum employment and support for the poor”. The timing is quite awful in this respect. The book was being published at a time when central bankers around the world were implementing their final interest rate hikes in a tightening cycle unprecedented in recent years. This came as a response to an inflation shock spurred by supply-bottlenecks, an energy price shock, and the rise of profit margins, all while the working class was unable to defend the purchasing power of its wages. Nonetheless, central bankers have continued to justify monetary austerity through the lens of the Philips curve, relying on a theoretical framework that seems to remain anchored in the 1980's.

Central bankers were very quick to dust-off their hard-money clothing as inflation kept rising, even as the latter was taking place in a a low-wage growth environment. This shows us that hard-money narratives may still be quite important to understand central banking. At the same time, it also supports Wansleben's tenet that central bank governance has lost steam in our current context, when interest rates are clearly not the answer to the inflation surge we experienced (if they ever were).

Unconventional monetary policies implemented during the 2010's may not be a consequence of central bankers abandoning hard-money politics. Rather, as Adam Tooze has argued, they were the consequence of an overwhelming victory over labour during the 1980's. While there may be some drawbacks in hard-money narratives, we should clearly not disregard them. When it comes to the relationship of central bankers with governments, inflation targeting is the source of central banks' output legitimacy. This justifies central banks independence vis-à-vis democratically elected governments. Central bankers will not flinch in defending their source of legitimacy, which, in their eyes, justifies the privileged position they hold with respect to governments. As Wansleben explains, central banks as organisations in between financial systems and states, we should not forget their entanglement with governments either.

This is a great book, whose framework is crucial for understanding central banking. I believe it will be instrumental in theorising about central bankers in the years to come.