Central Bank Independence: Why It’s Needed and How to Protect It

By: Peter Ort The Quinnipiac University Economics Research Team 

Photo credit: silvianm on Unsplash

This is the last article in our four-part series on Central Bank Independence (CBI) and focuses on the primary reasons for why we need CBI and how to preserve it.

As discussed in previous articles, CBI as of the present day is being heavily encroached upon by politics as post-covid inflation calls for strict monetary policy that causes short term economic turmoil, such as high interest rates and unemployment. However, as history depicts, this is simply a hard pill that many countries must swallow if they want any chance of mitigating long term inflationary problems. The problem with today’s central banks is that political leaders try to have heavy influence over them so that whoever is in office looks better, which sets a bad precedent. However, there are solutions to this, and it must be said that a central bank operating on monetary goals that do not represent its own is objectively economically inefficient.

With countless monetary policy mistakes in the past, central banks are not completely off the hook when it comes to seeking independence. Although it is important to have confidentiality with actions like foreign trade interventions for example, it is also important for central banks to be transparent with their policy so that they are held accountable in the right situations. It is often times that people or governments may not understand where a central bank is going with monetary policy, which may cause blame and ultimately repercussions to be directed towards the wrong people. Banks like the Bank of Chile and Bank of Canada have already adapted by establishing monetary roadmaps or publishing internal deliberations for each policy rate announcement.

The IMF has subsequently helped provide tools for centrals banks to assess their independence and transparency, further quelling any misunderstanding with monetary policy between the central banks and the government. Programs such as the CBT (Central Banks Transparency Code) and central bank balance sheet stress testing were created by the IMF (International Monetary Fund) to help solve this very problem.

When it comes to using monetary policy, central banks perform best while not under pressure from the government. And while many central banks still attempt to operate with some of their goals altered, there is still much hope for achieving stronger central bank independence for all.

For more context on this topic and CBI, see articles on inflation targeting, reconsidering central bank independence, and the erosion of central bank independence

Source:

Bank of Thailand Annual Retreat Tobias Adrian, IMF Financial Counsellor and Director of the Monetary and Capital Markets Department. “Central Bank Independence: Why It’s Needed and How to Protect It.” IMF, IMF, 14 June 2024, www.imf.org/en/news/articles/2024/06/17/sp061424-central-bank-independence.