Democracy Lab

The Shots Heard Round the World

Why conservative economists are aghast at radical reforms by Argentina’s central bank.

At a time when most governments seem incapable of doing anything about unemployment, worsening economic inequality, and continuing financial instability, Argentina has adopted a set of striking new reforms that will enable its central bank to play a much more proactive role in addressing all of these problems. In fact, the reforms, adopted in March, may be the first shots fired in a quiet revolution in monetary policy. If successful, they could threaten to overturn 25 years of conservative central bank policies that have long been considered best practice by the IMF and central banks around the world.

Argentina's new central bank president, Mercedes Marcó del Pont, said the reforms challenge the conservative axiom that central banks should play a very limited role in the economy. The bank is now rediscovering its sovereign capacity to formulate and implement economic policy, she explained, adding that some of the portraits on the bank's hall of fame would be coming down -- "beginning with Milton Friedman's."

Stalwarts of free markets and "central bank independence" were aghast. The Economist proclaimed that the Argentine central bank had become the "piggy bank" of the government, "losing the last shred of its legal independence." It claimed the government's meddling in the central bank would lead to reckless fiscal deficits and spark out-of-control inflation. Similarly, The Wall Street Journal's Mary Anastasia O'Grady reported the state had "stormed the central bank... destroying the last vestiges of independence," and told its readers to "Cry for Argentina."

Launched by President Cristina Fernandez de Kirchner and approved by Congress, the reforms formally abandon the central bank's focus on maintaining low inflation to the exclusion of other economic goals. From now on the bank will pursue a triple mandate of monetary stability, financial stability, and economic development.

In other words, rather than merely fighting inflation, the central bank will now play a broader role in economic management. It will safeguard financial stability through the application of corresponding regulation and it will promote job creation and more equitable development through the allocation of subsidized credit to priority sectors. The shift requires the central bank to coordinate more with government policies and priorities -- a radical step away from the 25 years trend of "central bank independence."

A key reform enables the government to use more of the central bank's $47.3 billion in international reserves for servicing external debt payments, which would enhance Argentina's creditworthiness. Previously, the bank was required to have a high level of reserves, but now the central bank's board decides what level of reserves is consistent with its monetary and exchange-rate policies.

A second reform gives the central bank an increased role in supervising the financial system by regulating domestic credit conditions, including loan maturities, interest rates ,and commissions, and preventing excessive risk-taking. A third reform allows for increased central bank help to the government for financing domestic banks and institutions involved in job creation and productive investments.

Supporters say the changes will help Argentina address its diminishing fiscal and trade surpluses in the short term. But more importantly, it will allow for greater financial stability and the use of incentives and disincentives to steer investment capital and loans toward businesses and projects that increase jobs and boost domestic production. Critics say the reforms will lead to over-regulation that will constrain finance, and worry that the government will go too far with new spending.

The changes break a host of taboos in the dominant school of monetarism in neoclassical economics and conservative policy circles -- a bold effort to show that central banks can play more proactive roles by providing credit to promote productive investment and job creation, and doing so with an eye to ensuring greater socioeconomic equality.

Such interventionist policies have been rare in recent years. In the 1970s, the financial services industry complained that interventionist central banks were too easily "captured" by populist governments who recklessly increased public spending in order to get re-elected. They famously complained that too much central bank financial oversight was constraining investors' "animal spirits" and amounted to "financial repression," prompting leaders such as U.S. President Ronald Reagan and British Prime Minister Margaret Thatcher to promise liberalization reforms and "independent central banks."

This began the trend in the 1980s of IMF loan conditions and policy advice that pushed central banks to make decisions in increasing isolation from the fiscal demands of governments -- and thus from voters' preferences. Over the last few decades, low inflation became the leading goal of monetary policy, regardless of what else might be happening in an economy, and any fiscal policy goals had to be constrained to accommodate it. In other words, monetary policy came first, and fiscal policy goals were second. The financial sector benefited from the low inflation and the greater degree of freedom to invest capital in speculative activities afforded by deregulation, but government-spending and public investment consequently suffered.

Argentina's dramatic turn will now allow fiscal policy goals to lead, while monetary policy takes steps to accommodate it. But even after 25 years of having their way, economic conservatives disagree with the new tactic; Abel Viglione, an economist at the Bueno Aires free market think tank Fiel, objects to the new mandate precisely because it once again subordinates monetary policy to fiscal policy.

In response to her critics, Central Bank President Marcó del Pont denied that printing currency necessarily leads to inflation, especially when inflation is rooted in other causes. While monetarists may view inflation as primarily the result of too much money in circulation, Marcó del Pont argued that economists should also consider additional sources of inflation, such as bottlenecks in supply routes or external factors like price hikes on international markets -- factors that have been known to spur inflation in Argentina and other countries like it. In such cases, simply raising domestic interest rates -- as the IMF often demands -- does little to solve the root of the problem. What's really needed, in many cases, is increased public investment targeted at clearing up supply bottlenecks or buffering against external shocks.

Yet it is precisely such increased public investment that is often discouraged by the IMF, which claims that rising fiscal deficits will lead to higher inflation and crowd out more efficient private sector investment. Others point out there is little evidence that deficits lead to higher inflation, and more importantly, it all depends on what exactly the governments spend: If the deficit is used to increase public investment in infrastructure, human capital, technology, and R&D -- measures that will ultimately increase the economy's future productivity (and more than pay for themselves with higher taxes over the long run) -- such deficit spending should be OK. Yet critics of this approach worry the government will squander the expenditures on unproductive investments or wasteful consumption, only adding to the debt burden.

According to economist Gerald Epstein, co-director of the Alternatives to Inflation Targeting Project at the Political Economy Research Institute of the University of Massachusetts Amherst, the Argentine reforms are in line with the historical practices of many central banks. In both industrialized and developing countries, central banks were historically more integrated with governments on macroeconomic policymaking, even coordinating credit allocation policies with them. Epstein cites several successful economic recoveries after the Second World War that were based on such collaboration, including examples from South Korea, Taiwan, China, and India.

It will be interesting to see whether Argentina's reforms inspire other countries to adopt similar changes, thus bringing about a sea change in monetary policy around the world. International enthusiasm for Argentina's reforms is building: economists in the UK, the U.S., Turkey, and elsewhere have been sending letters of support. Epstein, a signatory to the U.S. letter, says: "I hope other countries will look closely at the Argentine experience and be inspired to go down a similar path: To transform their central banks to act less as agents of finance and instability and more as agents of equity promoting economic development."

Less enthusiastic about such prospects are champions of financial liberalization, such as those at The Economist and The Wall Street Journal, and at least two generations of economists who've built their careers on the efficacy of central bank independence. In queries for this report, the IMF press office would only say, "No comment."



Is Nigeria the Next Front in the War on Terror?

The country's sectarian violence is getting out of control.

Violence between Christians and Muslims in Nigeria is drawing the country ever closer to a religious war. The instigator of this conflict is Boko Haram, an Islamist movement whose very name means "Western education is forbidden." If the Nigerian government can't stop this conflict from spiraling out of control, expect the United States to step in -- albeit with a relatively light hand -- to tip the scales against Boko Haram.

The situation in Nigeria hit a crisis point on June 17, when Boko Haram attacked three churches in Nigeria's north-central Kaduna state -- killing 21 people during services. Christians were quick to respond, and sectarian clashes ignited almost immediately. After four days of unrest, roughly 100 Nigerians lay dead.

Terrorist violence is nothing new for Boko Haram, a group that U.S. officials suspect of having links to al Qaeda. As the U.S. State Department has noted, attacks by Boko Haram and associated militants have taken more than 1,000 lives over the past 18 months. Nor is sectarian strife new to Nigeria: The country, predominantly Muslim in the north and Christian in the south, has a history of sectarian violence in its religiously mixed middle belt. Past riots killed more than 100 people in 2002 -- again in Kaduna -- when Muslim youths protested the Miss World pageant being held in Nigeria, and they also claimed scores of lives in 2006 following Danish newspaper Jyllands-Posten's publication of controversial cartoons satirizing the Prophet Mohammed.

Recent events show that Boko Haram's attacks are only becoming more deadly. The organization is in the midst of a tactical evolution: Whereas Boko Haram used to employ such tactics as assassinations and massed assaults on security forces, suicide bombings now feature prominently in its arsenal, and Christian targets -- which are most frequently attacked while church services are ongoing -- have moved to the top of the group's target list.

The Nigerian government has had some successes. Boko Haram was the target of violent suppression in July 2009 when its founder, Mohammed Yusuf, was summarily executed by Nigerian security forces following his capture that month, and roughly 800 members of the sect were killed, according to Nigerian military estimates. As scholar David Cook's useful study on Boko Haram details, however, the group re-emerged with a vengeance the following year. It engaged in "a high profile campaign of assassinations and attacks throughout northern Nigeria," Cook writes, and began to employ suicide attacks in the summer of 2011. Further, Cook notes, Boko Haram's attacks and threats have focused "more and more on interests that touch U.S. economic concerns in the region."

In line with Boko Haram's tactical evolution, it has frequently employed suicide bombings in its onslaught against Christian targets. Prior to the June 17 attacks, Boko Haram had perpetrated a number of other terrorist assaults on church services. On April 29, gunmen attacked services on Bayero University in the northern state of Kano, killing at least 16 people. The group also took credit for a June 3 suicide attack on a church in northeastern Nigeria that killed 15 people and wounded 40 more. The following Sunday, June 10, two church attacks rocked the cities of Jos and Biu, killing three people and wounding over 40. Once again, Boko Haram claimed responsibility.

Such attacks have provoked a response from Nigeria's Christian community. Christian youths reportedly assaulted local Muslims around Jos in response to those attacks, but that retaliation paled in comparison to the wave of violence that followed the June 17 attacks. As Boko Haram's attacks on church services continued from one weekend to the next, Christian and Muslim leaders have tried to stop the religious violence from escalating. Jamaatu Nasril Islam, an umbrella group for Nigerian Muslim organizations, released an open letter to the government that condemned the church attacks, describing them as "barbaric."

Even amid the calls for calm, however, rumblings of retaliation could be heard. To Nigerian Christians in areas with a strong Boko Haram presence, it seemed that the state was incapable of providing them with security. The Rev. Emmanuel Chukwuma, chairman of the South East chapter of the Christian Association of Nigeria, said that though Christians appealed for peace, "It seems that the present security of Nigeria cannot curtail the carnage."

Some of the Christian association's other statements contain more direct threats. Its head, Ayo Oritsejafor, told reporters that the church had previously "put great restraint" on its members, "but can no longer guarantee such cooperation if this trend of terror is not halted immediately." The Odua Nationalist Congress, a group representing the Yoruba people, also warned that if the government did not counter Boko Haram, "the people, on their own, will rise up to the occasion for self-preservation."

Following the June 17 attacks on three churches in Kaduna -- the third straight weekend of attacks on services -- Christian retaliation against Muslims was swift. Some of the targets had actually been involved in the attacks: Reuters reported that militants who threw bombs at one church were "caught by a mob and killed." Other acts of retaliation were brutal and indiscriminate -- the same article noted that Christian youths pulled Muslims out of their cars and killed them.

With violence escalating, Nigerian commentators are openly discussing the prospect of a sectarian civil war. The country's PM News, for example, wrote of "the possibility of a religious war." A June 26 statement from the Catholic Bishops Conference of Nigeria, arguing that security forces' failure to arrest and disarm the militant group had made self-defense "imperative for Christians," as Nigeria's Guardian news site put it, only intensified these fears.

A religious war may play right into Boko Haram's hands. Although Iraq circa 2006 is very different from Nigeria today, it is worth recalling how al Qaeda in Iraq was able to set sectarian violence in motion through its attacks on Shiite targets -- and then position itself as a protector of Sunnis. Boko Haram may similarly be able to capitalize on retaliatory attacks directed at Muslims after it strikes at Christians.

There is evidence that the attacks on Sunday services have managed to polarize Nigeria along religious lines. "I held a position that it is not a religious war in the past," Nigerian Sen. Ita Solomon Enang, a Christian, said in an interview. "But my position on that is becoming shaky because when people now blatantly take guns to churches and aim at unarmed worshippers, kill them, and go away.… I would say this is like a jihad."

Meanwhile, Nigeria's government is struggling to contain this new outbreak of religiously fueled animosity. President Goodluck Jonathan has responded to the crisis by firing his national security advisor and defense minister -- the country, he said, needed "new tactics" to combat Boko Haram. It is highly unlikely, however, that this shake-up has succeeded in assuaging Christian fears or has reversed the Christian community's pull toward self-defense.

If the Nigerian government isn't up to the job, expect the United States to take a greater interest in counterterrorism operations there. Gen. Carter Ham, the commander of U.S. forces in Africa, has repeatedly spoken of connections between Boko Haram and two al Qaeda affiliates: Somalia's al-Shabab and North Africa's al Qaeda in the Islamic Maghreb. For the first time, on June 21 the State Department designated three high-level Boko Haram members as "specially designated global terrorists," and the United States is considering a broader designation of the group as a whole.

Thus far, U.S. policies toward Boko Haram have emphasized empowerment of local partners -- for instance, providing Nigeria with counterinsurgency training and intelligence support, and providing the funding to bolster its armed forces -- rather than direct, kinetic actions. If Nigeria can't get control of this brewing sectarian war, however, the United States might opt for more direct involvement. For instance, U.S. Special Forces could eventually be used beyond their current training capacity, or the United States could decide to directly target Boko Haram's leadership. Although there is no sign that such an escalation in the U.S. role is imminent, Nigeria's festering sectarian divides mean such options remain on the table.

Nigeria isn't going to turn into Somalia or Yemen -- let alone Iraq or Afghanistan -- overnight. But if the religiously fueled violence there is not contained, it might become yet another front in the war on terror.