Independence of central banks: Justifications and standards

by **claud39** Thu Dec 06, 2018 1:45 pm

https://annabaa.org/arabic/economicarticles/17482

Independence of central banks: Justifications and standards

Tuesday, 05 December 2018

Independence of central banks: Justifications and standards 5c07645b733b4

Dr.. Haidar Hussein Al-Tohma

Many central banks have given more depth and depth to understanding the nature of the role played by the Central Bank in the economic activity of the country through its powers and the real possibilities to enable it to exercise its functions and functions to achieve the objectives of monetary policy, so we find that many countries have modified or enacted new laws Ensuring the independence of its central banks.

Justifications for the independence of central banks

Economic literature is rich in many studies that have been subjected to research and analysis of the content and importance of the independence of the Central Bank and its role in establishing the foundations of growth and economic and monetary stability. Most of these studies have revealed that central banks, which are more independent of the executive branch in general and of the financial authority in particular, will produce better monetary policy and stronger and longer-term economic stability. In this regard, the trend of supporters of the independence of the Central Bank of the number of arguments, the most prominent (1):

1. Monetary affairs should be kept away from the influence of politicians, since members of the government and parliament give priority to the satisfaction of their constituents. They adopt policies consistent with their political and electoral interests (including putting the bank under political pressure for expansionary monetary policy ahead of elections) , So these matters should be assigned to a central bank independent of the government.

2. The ability of the central bank to achieve and maintain long-term stability of prices will improve if monetary policy formulation by officials away from politics can look at the long term.

3 - If the Central Bank is independent, the policy followed in this case will lead to lower inflation and stability of price levels. This understanding was based on several studies that examined the relationship between the degree of independence of central banks and inflation and ended up with an inverse relationship between them, especially in developed countries. In other words, the higher the degree of independence of the central bank, the lower the inflation rate, That providing a higher degree of independence to the central bank helps to reduce the burden of inflation and increase the credibility of monetary policy.

4. Central banks with high degree of independence can resist government requests to finance the budget deficit either by issuing more money or by holding public debt securities. More precisely, the central bank's independence from the government in this context means that the latter can not force the central bank to finance the budget deficit.

5. The Central Bank shall be responsible for monitoring and directing the financial system of the State, as well as finding the required coordination between its various institutions, which requires the Central Bank to enjoy independence.

6. The independence of the Central Bank will lead to the removal of the effects of the government from these banks in terms of determining their expenditures and revenues, and then separating the budget of the Central Bank from the state budget.

7. The increasing globalization of financial markets coupled with recurrent financial crises calls for the independence of the central bank in addressing these crises through the use of appropriate monetary instruments.

Thus, the independent central bank can resist the pressures of financial and political power and then adopt a prudent monetary policy that is in the public interest, represented by better macro economic performance, greater productivity and greater use.

Standards of independence of central banks

Studies on the independence of central banks face considerable difficulty, especially in measuring the degree of independence, since the latter are inherently not quantifiable for their factors, including valuative and relative provisions. However, most studies on the independence of the Central Bank agreed on a set of criteria On the basis of which the extent of such independence is determined. 2 The most prominent of these criteria are:

1. Drawing monetary policy

The authority responsible for setting and defining the monetary policy varies according to the degree of independence enjoyed by the central bank. The independent central bank has the powers to determine and determine the monetary policy under the mandate freely granted to it by the law without receiving any instructions or directives from the government. While in other cases monetary policy is the responsibility of the Government, where the latter is responsible for its reports and objectives.

2- Objectives of the Central Bank

The central bank enjoys greater independence when it is mandated by law to set a set number of objectives. The attribution of a large number of functions to the central bank is attributed to the weakness of its autonomy in its management of monetary policy. On the other hand, the precise identification of the central bank's task, with emphasis and emphasis on stabilizing the internal and external value of the currency, is one of the most important indicators of the independence of this bank from the government.

3. Government representation in the administration of the Central Bank

The composition of the boards of directors of central banks has a significant impact on the nature of the relationship between banks and governments. In some cases, these councils serve as an official channel for the government to exert its influence directly on the decisions of the central bank. In many countries, the government appoints most, if not all, members of the board of directors of the central bank. Which enables the government to exercise its influence through its direct presence in those councils. Government representatives may enjoy the rights of other members, including the right to vote on central bank decisions, giving them greater leverage in influencing bank decisions and policies.

4. The limits of the Central Bank in financing the government

Most countries have placed tight limits on government borrowing from their central banks, fearing excessive borrowing could lead to inflation. These restrictions are a general manifestation of the independence of the central bank in defining and implementing monetary policy. The Maastricht Convention of 1993 strictly forbade financing the budget deficit in Member States by resorting to borrowing from the Central Bank. The European countries that signed the Convention have, in effect, begun to amend their laws to include provisions prohibiting such borrowing.

5. Free use of monetary instruments

The inability of the central bank to use monetary policy tools it deems appropriate, without the need for government approval, weakens the independence of the central bank. The ability of the central bank to use monetary policy tools varies widely among countries. In some, the bank has great freedom to use these instruments, while others require simply changing some of them - for example, changing the requirements of the legal reserve - for example, referring to the government.

6. Financial independence of the Central Bank.

The issue of the financial independence of the Central Bank is of particular importance in studying the relationship of this bank to the government and its independence. The requirement of obtaining the prior approval of the government on the central bank's budget may in itself be an indirect means used by the government to influence the decisions of the central bank. Ability to obtain the necessary financial resources in the event of failure to follow its directions.

7. The Government's authority to appoint and remove the Central Bank's administration

In most countries of the world, the task of appointing the governor and senior officials of the Central Bank is assigned to the executive branch (the government), and this does not contradict the independence of the bank. This means that independence does not conflict with the appointment by the governments of the Governor of the Central Bank and members of the higher bodies of the Bank. However, in countries where central banks have a high degree of independence, government authorities are subject to restrictions and limitations in the appointment and dismissal of central bank governors, most notably:

A) The necessity of a percentage of the appointments not taken by the government, in order to limit the influence of the government in this area and prevent it from monopolizing all appointments.

B) To determine the length of stay in office so that it is relatively long compared to the electoral cycle, in order to reduce the impact of the government on the Board of Directors of the Central Bank.

(C) The approval of the Parliament (the legislature of the country) is required when the Government appoints senior officials of the Central Bank.

Independence of central banks: Justifications and standards