Historical review of the Central Bank of Ecuador
The Central Bank of Ecuador was born from a change process generated from the Julian Revolution of July 9, 1925, which sought to prioritize the best interests of people over those of capital1, by confronting the plutocratic governments of the time, in order to end the acute crisis the nation found itself in.
According to Luis Napoleón Dillon, Minister of Finance at the time, it was a crisis caused by the non-convertibility of the banknote2, unsupported issuances, inflation, speculation, the abuse of credits, the gap in the balance of payments, the lack of official control over banks, and the level of banking anarchy and rivalry, which had to be confronted by restructuring the currency and regularizing the exchange rate. Thus was born the Central Bank of Ecuador -BCE-, within a motley set of reforms to the Ecuadorian economy, advocated by the military and civilians that rallied around Julian ideas, and defeating the inertia of certain groups that were not interested in this type of progress.
As an intermediate step to the founding of the BCE, the Central Fund for Issuances and Amortizations, an entity tasked with officially recognizing the total amount of payment means and with authorizing, on a provisional basis, the circulation of banknotes, was created on June 26, 1926. Additionally, on October 18, 1926, it was decreed that banks authorized to issue banknotes should deliver to the Central Fund for Issuances and Amortizations, specific quantities of gold and silver. At the same time, the mission led by Edwin W. Kemmerer, a distinguished economist with an illustrious reputation (well know as the "money doctor"), the result of similar works performed in other nations throughout the world, prepared an extensive set of modernizing economic measures. Among them, on February 11, 1927, the Kemmerer mission presented the Central Bank of Ecuador Fundamental Law Project to the Government. This proposal created the BCE as an institution authorized to issue money, rediscount at fixed rates, become trustee to the government and associated banks, manage the exchange market and act as fiscal agent. On March 4, 1927, President Isidro Ayora signed the Fundamental Law of the Central Bank of Ecuador3, the public act of incorporation of the BCE is issued on July 9 of the same year (second anniversary of the Julian Revolution) and the BCE begins operations on August 10, 1927, considered the date of its founding.
The initial objectives of the BCE were to stabilize and unify the currency. In order to achieve this, the BCE used the "gold standard"4, a monetary system that fixed the price of the sucre in terms of gold; the basic obligation of the BCE consisted of maintaining said price fixed.
This forced convertibility coincided with the Great Depression of October 1929, which resulted in declaring a moratorium on payments on February 8, 1932. From that date forward, a policy of loss-making fiscal expenditure and governmental credit begins on the part of the BCE. Under this context, the Mexican consultant Manuel Gómez Morin was approached in order to reform the Law of the Central Bank and related monetary regulations. In the opinion of the aforementioned expert, the monetary authority had to channel credit towards economic sectors considered critical within the process of development. Along with Victor Emilio Estrada, an eminent banker from Guayaquil, M. Gómez Morin advised assigning the role of centerpiece, with regard to the determination of the types of loans offered by private banking to the production sector through the modification of the discount rate, to the BCE (1937). The difficulties in executing the recommendations of the Gómez Morin Commission were immense. However, since then, relations between the government and the banking sector have been extensively modified.
A Central Bank for Development
At the end of the Second World War, a new rise in inflation, along with serious Balance of Payment problems, made the presence of foreign technicians necessary once again. In 1947, the BCE calls Robert Triffin, a distinguished Keynesian 5 economist, and expert in the US Federal Reserve System, who proposed the replacement of the Fundamental Central Bank Law with the International Exchange Law (1947), and the Monetary System Law (1948). The Monetary System Law of 1948 grants the BCE the role of liquidity manager in order to finance the development of the nation ("Central Banking for Development"), a role which allowed the institution to contribute to the consolidation of the national economy during the period known as the Glorious Thirties6, that of greatest monetary stability in the economic history of Ecuador. Additionally, the Monetary System Law of 1948 establishes new concepts: a Board of the BCE in which the Government participates (which implies its co-responsibility in the design of monetary policy); the power to devalue the currency for economic purposes; in addition, in order to execute anti-cyclical policies, the BCE has the authorization to grant loans to the State and to the productive sector; and, finally, an accounting system that allows it to take on new roles. This monetary system successfully faced a series of economic disturbances for over three decades.
The Central Bank of the "two lost decades”
The "two lost decades" begin with the foreign debt crisis on 1981, following the increase of international interest rates in 19797. Internal pressure from the private sector, banking and business groups, and powerful families in the country, joined imbalances in the economy, fiscal deficits, monetary devaluation and rampant inflation in pushing the State to resolve the debt problems of the time. As a result, foreign debt renegotiation and socialization of domestic private sector debt processes were carried out through the so called "Sucretization of private debt".
Additionally, under the tutelage of the International Monetary Fund and the World Bank, a new change is launched to organize the economy as a whole, and attempt to return to a path of growth. With this purpose, and under a new economic paradigm8, the Monetary System and State Bank Law is issued in May of 1992. This Law seeks to give the BCE "autonomy" by removing it from political designations and decisions in the case of the appointment of officials by the government; restricts the use of direct instruments, and gives greater importance to indirect instruments in order to guide the exchange rate, the interest rates, and thus maintain stable inflation levels; and infringes on the power of the BCE to grant loans to the Tax Authority. Under this regulatory framework, the nation enters into an exchange rate controlled flotation system in which the role of the BCE consists primarily of intervening in the financial system through dealing and trading desks, and monetary stabilization bond auctions (BEMs, for its abbreviation in Spanish). Additionally, this reform authorizes the BCE to operate as a lender of last resort to the financial system. The Monetary System and State Bank Law of 1992 is joined by the General Law of Financial Institutions of 1994, and the Constitution of 1998, both which contemplated the autonomy of the BCE and the liberalization of the financial markets so that free competition may promote its development. For example, the Constitution of 1998, in Article 261, defines the BCE as a "legal entity of public law with technical and administrative autonomy, whose role shall be to establish, control and apply the monetary, financial, credit and exchange policies of the State and to, as its purpose, safeguard the stability of the currency." The General Law of Financial System Institutions of 1994 eliminates the intervention by the Superintendency of Banks and Insurance in financial entities, prioritizing their self-regulation. In fact, the aspired autonomy even led to the non-compliance of Article 265 of the Constitution of 1998, which stipulates that "The Central Bank does not grant loans to State institutions, nor shall it acquire bonds or other financial instruments issued by them, save when a state of emergency due to armed conflict or natural disaster is declared", and the desired self-regulation of the banking system transformed into total deregulation. 1998 saw one of the worst financial crises in the history of the nation with the entry of certain banks into "restructuring".
Once again, the losses of the private banks were socialized upon the State taking on the former's obligations. The BCE, as a lender of last resort, issued sucres inorganically in order to finance more and larger liquidity loans, and so that the Deposits Guarantee Agency (AGD for its abbreviation in Spanish) could pay the affected depositors in cash9. The nation lost credibility in its currency, and on March 9, 1999, the Executive Branch declared a banking crisis that froze the citizenry's deposits with a massive social cost and generalized discontent. The political desire to mitigate social unrest led the Government to announce the dollarization of the Ecuadorian economy on January 9, 2000. The US Dollar replaced the Ecuadorian sucre as legal tender in Ecuador, fulfilling the value reserves function, unit of account and means of payment. The BCE is no longer able to issue currency, save for coins, and has the obligation to exchange existing sucres for US Dollars, which it held in its International Monetary Reserve (RMI, for its abbreviation in Spanish) at a fixed rate. The latter process ends in June of 2001. Once dollarized, the financial system gradually returns to normal, but only in 2004 do deposits and credits return to historic levels prior to the financial crisis of 1998. The social costs of this crisis, one of the greatest in the history of Ecuador, are immeasurable 10.
A Central Bank for the XXI century
After great political instability during the late XX century and early XXI century (6 presidents in 10 years),11 as of January 2007 the "Citizen Revolution" government begins in Ecuador with the presidency of economist Rafael Correa Delgado. The Citizen Revolution drives the creation of the Constitution of 2008, which replaces the traditional concept of development12 for that of Good Living13 and marks the path for the generation of structural changes that deeply modify the historic path of the nation. With the Constitution of 2008, the BCE ceases to be "autonomous" and becomes a legal entity of public law with the responsibility of implementing the monetary, credit, exchange and finance policies formulated by the Executive Branch14. This structural change is part of the constitutional efforts to democratize the State, to unincorporate the public sector making it independent from traditional power groups and their economic interests, to return the capability of making public policy to the government, and to prioritize citizen participation. Indeed, what is sought is a true democratic State that works in the interests of the majority. To this end, citizen participation becomes a key element that allows the citizenry to embed itself in the State and in its planning, execution, follow up, assessment and accountability processes. The Constitution of 2008 also requires a comprehensive restructuring of the existing monetary and financial regulations, as well as of the institutions tasked with designing and executing economic policy. As an example, on December 30, 2008, the National Assembly approved the Law to Create the Financial Security Network, which radically changes the management of potential financial crises. The supervision of the financial system is strengthened, a new method of banking resolution is defined in order to never again socialize the banking sector´s private losses, and the deposits guarantee fund and the liquidity fund (lender of last resort) are created, this time however, financed by the contributions of the financial institutions themselves (IFI for its abbreviation in Spanish) and no longer with public funds. With regard to BCE, it enters into a new structural reform to update its role for the purpose of contributing to the creation of Good Living, and confront the challenges faced by a Central Bank of the XXI century. Thus, the following elements are prioritized within this restructuring:
1. Innovation and development of the National Payment System: reduce the cost of transactions, increase the speed of the circulation of currency, and democratize access to the payment system and alternative means of payment like electronic money.
2. Financial inclusion: prioritize access to quality financial services, with a preference for popular and solidary economic actors.
3. Monetary and financial regulation: guarantee the efficient use of liquidity in favor of human beings and above capital interests.
4. Management of the reserves: optimize the social profitability of domestic and foreign investments.
5. Regional financial and monetary integration: support the regional integration and strategic insertion of the nation into the global economy.
1The “Elimination of the Law of Non convertibility of banknotes; establishment of the national Bank, which gives value to the currency" was the third of twelve points from the program of the Julian military. See National Army (1925), "The twelve points from the new Regime Program", Journal of Historic-Military Studies, Year IV. No. 26. Quito-Ecuador, p. 567.
2In 1914, during the second presidential term of general Leonidas Plaza (1912-1916), the Law of Non convertibility or Moratorium Act was published, which allowed banks to issue banknotes without them being backed by gold.
3Official Record N. 283, published on March 12, 1927.
4The Central Bank of Ecuador is created within a context in which economic thought was governed by the gold standard and the monetary orthodoxy (neutrality of currency) of David Ricardo´s (1772-1823) theories. Ricardo´s currency neutrality considers that real interest rates are not influenced by currency, they are fixed by the confrontation of the supply of savings and the demand for investment, both real variables. Currency only influences nominal interest rates by means of inflation and, as such, their issue must be limited, upholding the quantitative currency equation (MV=PQ) created in the XV century. With regard to David Ricardo, J.M. Keynes mentions in his book "the General Theory of Labor, Interest and Currency" of 1936: "Ricardo conquered England as completely as the Holy Inquisition conquered Spain".
5Within the economic thought arena, an unorthodox vision of currency, led by the British Economist John Maynard Keynes (1883-1946) begins to be imposed. To him money is not a merchandise, it is money. The issue of currency must not be carried out solely thinking of stabilizing inflation, but also creating employment. If the level of employment of an economy is low, currency must be issued in order to invigorate the economy and reach full employment with controlled inflation. In order to learn about the monetary thought of J.M. Keynes, see "A treatise on Money" (1930) and "Proposal for an International Clearing Union" (1941).
6A term used to describe the global development of the period following the Second World War, and prior to the structural consequences of the first petroleum crisis: 1945-1975.
7On October 6, 1979, the Federal Open Market Committee (FOMC) of the United States adopted a reform in its interest rate policy in order to go from gradual interest rate increases to more substantial increases.
8The monetary counterrevolution led by Milton Friedman (1912-2006) was placed ahead of Keynesian thought, along with the Chicago School, with the historic concepts of currency neutrality. Under this framework, Central Banks must cease to be agents of development and become "autonomous" institutions devoted solely to the purpose of controlling inflation, setting aside the remainder of objectives such as employment, economic growth and redistribution. They are only allowed to use indirect action instruments (market instruments), and are prohibited from using direct methods such as the management of credit.
9“The AGD initiated cash payments of the deposit guarantee through security (AGD Bonds) issued by the Ministry of Economy and Finance (MEF), expiring in 2013 and 2014. The only buyer of these papers was the BCE through an inorganic issue". With regard to Analysis Management and Current Economic Policy (July 2010) "The Ecuadorian Economy, after 10 years of dollarization", Ed. Paladines E., General Studies Office of the Central Bank of Ecuador, Quito, Ecuador, p.35.
10Simply to provide an example, although the official figures only account for legal migration, according to the National Migration Office, between 1999 and 2003, the net balance of international entries and exits was of -697,710 persons. According to the data from the National Statistics and Census Institute -INEC- 43% of immigrants left minor children and 58% of immigrants are comprised of individuals between the ages of 18 and 29.
11Abdalá Bucaram (1996-1997); Fabián Alarcón (1997-1998); Jamil Mahuad (1998-2000); Gustavo Noboa (2000-2003); Lucio Gutiérrez (2003-2004); and Alfredo Palacio (2004-2006).
12Traditional development is understood as a lineal and anthropocentric term, consisting of a shift from the incorrectly named "underdevelopment" to an equally incorrectly named "development", which in many cases implies impulsively assuming international openness and submission politics, the sale of tangible and intangible assets to large multinational corporations, and in short, submit to the designs of the free market, generator of that so-called "development".
13Although the concept of "Good Living" is not specifically defined in the Constitution, it gathers historic social demands and processes them by allowing the constitutional definition of the Rights to Good Living and the Regime of Good Living, both directly related to the right to a full life. In this sense, the main aim of Good Living can be understood as that of guaranteeing a full life, understood as a harmonious relationship with ourselves (gainful employment, the development of creative and intellectual potentials, the right to enjoyment and contemplation...), with others (inclusion, equality, justice, interculturality,...) and with nature (biocentrism, biodiversity, sustainability,...).
14Figures. Art. 303 of the Constitution of 2008.