They create deposits and credit in multiple terms restricted only by the public’s preference for currency as against deposits and banks’ own need for keeping a safe cash reserve to meet public’s demand for cash. In Sri Lanka, commercial banks could create bank money five times higher than the initial amount of currency issued by the central bank. Because of this ability to self-produce in multiple terms, (in Sri Lanka, that multiplier is 5), the seed or reserve money produced by central banks is also called “high powered money”. Thus, the total money in an economy would be much more than what a central bank would issue to the economy. When that money which is known as money supply chases after the limited availability of goods and services, the general price level would elevate to a higher level. If it happens continuously, inflation sets in an economy imposing an inflation tax on the society. Why is there a preference for inflation tax? There is a general preference for inflation tax for several reasons. First, it is easy, quick and convenient to borrow from the central bank, compared to conventional forms of taxes available to a government. Such conventional taxes need to be backed by legislation, take time to generate the tax revenue and have to be enforced by an elaborate tax administration. It also runs the risk of failing to generate the required revenue due to tax evasion and avoidance.
We generally share the broad agreement among EU bodies that the Lamfalussy framework has significantly increased the efficiency and effectiveness of financial regulation and supervision in the EU. At the same time, however, a number of further improvements seem warranted to reap all the benefits. First, increased regulatory convergence is called for, in particular for reducing national options and discretions in EU directives. Indeed, the inconsistent implementation as well as the “gold plating” of EU rules at the national level give rise to significant compliance costs for financial institutions operating across borders. Second, we need to strengthen the basis and decision powers of the “level 3” committees of supervisory authorities pursuing supervisory convergence and cooperation Third, further improvements in the arrangements for the supervision of cross-border financial groups should be achieved. All authorities need to be adequately informed to effectively perform the ongoing supervision of cross-border institutions as well as to be fully prepared to address potential cross-border situations of financial distress. Given the increased scope and intensity of the cross-border activities of EU banking groups, the need for effective information-sharing and cooperation in their supervision is now more important than ever. In this respect, the Eurosystem underscores in particular the importance of strengthening information sharing also between supervisory authorities and central banks without supervisory responsibilities with respect to the major EU banking groups. Next, I am turning to our role as catalyst for market activities fostering financial integration.