How Should Large and Small Countries Be Represented in a Currency Union?

The likely extension of the euro area has triggered a debate on the organization of the ECB, in particular on the apparent mismatch between relative economic size and voting rights in the Council. We present a simple model of optimal representation in a federal central bank addressing this question. Optimal voting weights reflect two opposing forces: the wish to insulate common monetary policy from changing preferences at the national level, and the attempt to avoid an overly active or passive reaction to idiosyncratic national economic shocks. A perfect match between economic size and voting rights is rarely optimal, and neither is the “one country, one vote principle”. Empirically, there are indications that the pattern of overand under-representation of member countries in the ECB Council might be extreme by the standards of the US Fed and German Bundesbank and not always optimal. JEL Code: D72, E52, E58, F33. Keywords: Central Bank, Federal Central Bank, Currency Union, optimal representation, voting, ECB. Helge Berger Free University Berlin Department of Economics Boltzmannstr. 20 14195 Berlin Germany [email protected] Till Mueller Free University Berlin Department of Economics Boltzmannstr. 20 14195 Berlin Germany [email protected] We thank seminar participants in Berlin and at the Bundesbank in Frankfurt for helpful comments. Anne-Kristin Koch provided able research assistance. [T]he co-responsibility and active involvement of the Länder, in the form of participation in the appointment of the Land Central Bank (...), are an important element in the Bundesbank’s structure and independence. Bundesbank (1992, p. 49-50) Whether within the Convention or in bodies such as the European Central Bank, representatives of the large countries believe they are under threat of being tied up by a gang of small countries, which are by de…nition irresponsible and which, following enlargement, will form the majority within the Council in terms of numbers. R. Goebbels, MEP Luxembourg (European Parliament 2003)