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The False Promise of Stability

France, Portugal and Germany are all flagrantly flaunting the Stability Pact, the agreement among Eurozone members to keep their deficits below a critical threshold (3% of GDP today, but lower, supposedly, in the future). France's Prime Minister, Pierre Raffarin, defends his government's position by saying that France was not prepared to impose austerity on its own people. If France will not, other European leaders must wonder, why should they?

Monsieur Raffarin was right to say that austerity would result if France obeyed the Pact's strictures, but in debates over economic policy, the truth is seldom appreciated. Telling the truth is something best left to academics, whose squabbles make it difficult to discern who is right and who is wrong. A few years ago, Alan Blinder, then Vice Chairman of America's Federal Reserve Board, was excoriated for stating the obvious: that monetary policy should target not only inflation, but also unemployment, and that, at least in the short run, there may be a trade-off between the two.

There is a long list of central bankers' homilies that are not supposed to be questioned; do so and you are exiled from the small circle of those who supposedly know how the world "really" works. Here are three:

An independent central bank is necessary for sound macro-economic policy. The truth: countries that do not have an independent central bank, like India, manage to contain inflation as effectively as those with independent central banks. In Russia, an independent central banker, Viktor Gerashencko, could not be removed for years, though he tolerated both inflation and corruption. More generally, there is little evidence that countries with independent central banks grow faster, have higher wages, or generate higher incomes--indeed, that they perform better in any real sense--than those that do not.