Katharina Pistor of Columbia Law School reflects on this recent decision by 6 developed central banks to make swap lines permanent.
Originally created as a temporary fix in 2007, the swap lines established at that time connecting the US Federal Reserve, the European Central Bank, and the Swiss National Bank have been extended each time a new crisis has unsettled the markets. More recently, however, six central banks announced that they had made their swap lines permanent.
But did these central banks have the legal authority to do so? And, even if they did, should they have used it?
The original swap lines might fairly be classified as emergency measures. But what may be permissible and justifiable in a financial emergency may not be appropriate as standard practice during normal times.
Central bankers might argue that we have entered a state of permanent market crisis analogous to the never-ending “war on terror.” But even this frightening analogy does not answer the question of whether central banks should assume positions of power in international relations.
Why just the 6 of them?
What is less clear, though, is whether the same justification can be used by central banks to create permanent swap lines with just a few other central banks of their choosing. This is akin to an announcement on a cruise ship approaching an iceberg that the crew will definitely rescue first-class passengers but not necessarily others.
Not every country’s central bank – not even every “friendly” country’s central bank – has been invited to join the swap-lines club. Membership is restricted to the United States Federal Reserve, the Bank of England, the European Central Bank, the Bank of Japan, the Swiss National Bank, and the Bank of Canada.
There may be a legal rationale for this neo-imperial elitism. The so-called C-6 might argue that, given their price-stability mandate, only central banks of countries whose economic fate might destabilize domestic prices should receive privileged access to domestic currency.
But the choice of monetary partners is nonetheless a matter of judgment. For example, why Canada and not Mexico? Aren’t both members of NAFTA? Why Switzerland and not Brazil, one of the largest emerging markets?
Picking partners is an inherently political act. It bestows access to high-demand currencies on a select few, relatively strong, countries precisely when the weakest countries are at their most vulnerable. Having been left outside the club, these countries have no option but to self-insure by accumulating foreign-exchange reserves.
Indeed, empirical research suggests that countries without explicit or implicit access to liquidity tend to hold much higher reserves than the privileged few – only to be blamed by the same privileged few for contributing to global imbalances by hoarding excess reserves.
Nice bit. C-6…