Why don’t economic research functions exist within Finance Ministries?

This question was posed in conversation with the Norges Bank’s Oistein Roisland and Gisle Natvik last night.

Why indeed?  The task of figuring out optimal fiscal policy is no less important than optimal monetary policy.  And arguably a lot more so.  In the UK, both the Bank of England and the Treasury are filled with talented civil servants.  But in the Treasury those ranks are populated with staff with fewer years of economics training, and there are far fewer doing anything that would resemble modern economic research.  [Many might think that a good thing of course!]  This pattern is replicated, as far as I can tell, in the US, Norway, Sweden, France, Italy, Belgium, Spain, Canada, Chile, Mexico, New Zealand, Australia, South Africa, South Korea, Japan, Israel, Iceland [guesswork].  I don’t list other countries as I have zero information about them.  You can even find the same pattern in supernational bodies.  The ECB has a huge research department pouring out deluges of top quality research by great people.  The Commission doesn’t.

Oistein wondered whether it was because central banks are close to their own source of finance – they make money by printing it (it’s called seigniorage).  That way they get to spend it on the luxury of research.   Gisle Natvik conjectured that research departments might not thrive in finance ministries because they are more closely tied into the political process, and this makes it harder to publish independent and critical research, and that in turn dissuades researchers from working in these institutions, and this prevents research nodes getting going.  Perhaps the political cycle also makes the institution more short-termist,  so the horizons over which research delivers fruit (if it delivers any) are too long for it to be worthwhile.

Another possible reason:  there are market failures in academia in research relating to central bank functions [monetary policy, financial stability], hence they employ researchers to fill the gap.  In topics relevant to finance ministry functions, the academic market for research works fine.  Nope, that doesn’t work.  You can make a convincing case that there are market failures in academic research, but not that these failures are greater for monetary policy than fiscal policy research.  You can see that central banks think there is a market failure.  Often senior central bank speeches are peppered with derogatory references to the academic literature, and its failure to provide practical advice.  And central banks set up their own journal for economic research [The International Journal of Central Banking] for this reason.  But the failures, if they are failures, don’t seem any more acute in fiscal policy.  Senior finance ministry employees don’t give speeches about the academic fiscal policy literature because they haven’t read it, not because they are content with what the academics are doing.

Maybe what I’m describing is a mirage.  Research is happening in finance ministries, it’s just that they don’t have their own departments, they contract it out.  I don’t see that happening.

In the UK people talk about a heyday of the Treasury, when the best economists worked there, in the 1970s and the 1980s.  The arrival of the Thatcher regime either led to an exodus or a cull, depending on which rumour you believe.  I’d be interested to understand just what happened, as this was a period which seems to have bucked the global trend for central banks being the place which attracted the greatest density of specialist and technically oriented economists.  I know that this cohort included Simon Wren Lewis and Peter Westaway, so if they are reading, what do they have to say about it?  At some point, well before independence in 1997, the balance tilted decisively towards the Bank, but it wasn’t always that way.

The oddest manifestation of this trend is (or was?) the nodes of freshwater economics in the regional Fed system, eg in the Fed of Minneapolis.  There you have a bunch of (brilliant) economists [not everyone thinks so but I do] preaching that central banks are basically irrelevant [because they believe in flexible prices, and in models with flexible prices central banks can’t stabilise booms and busts with monetary policy], but feeding their families by working for… a central bank.  [Aside:  for me their brilliance wasn’t in this substantive message about monetary policy, which I don’t buy, but in explaining to us how we should do macroeconomics generally;  how we should build models and verify them.]

Whatever the cause, and whether you think technical economic research is useful or not [lots on the blogosphere about that at the moment, from both sides] this uneven distribution of research activity doesn’t seem to make sense.  Either it’s useful, and should be taking place across government functions, not just inside central banks, or it’s not, and it shouldn’t happen anywhere.

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