ALAI, América Latina en Movimiento
Central Bank Independence: From Whom?
The President of Argentina, Cristina Fernández,
recently fired the head of the central bank, Martín Redrado, when he
rejected the government's plan to use $6.6 billion of international
reserves to pay off debt.
domestic and international press response was overwhelmingly
negative, with complaints that this would "kill central bank
Leaving aside the question of whether it is a good idea
to use these reserves to pay off international creditors -- something
that perhaps only the future will tell -- is there a good reason why
central banks should be "independent" of their elected
The business press, which has the support of the vast
majority of economists on this question, thinks there is. The basic
argument is that if the central bank is not able to determine
monetary policy free of "political considerations," then
politicians will force the bank to be "too loose" with
monetary policy and the country will end up with dangerously high
levels of inflation.
This would seem to be a tough argument to swallow for
anyone who believes in representative democracy. Fiscal policy -- the
government's decisions with regard to spending and taxation -- is
also a major determinant of economic activity. There are important
tradeoffs that affect the livelihood, income, and employment of most
of the population. Yet in the U.S., these decisions are entrusted to
our elected representatives in Congress, together with the executive.
There is no obvious reason why monetary policy -- the
central bank's decisions with regard to interest rates and money
supply -- is so different from other major policy decisions that it
should be specially insulated from the electorate. There is no valid
analogy, for example, to the independence of the judiciary -- which
is based on a theory of separation of powers, or checks and balances,
ostensibly to limit abuses of power or infringements on civil rights
The argument for an independent central bank is more
purely an elitist argument. It really boils down to the idea that
monetary policy is too important for the "uneducated"
masses to have an influence over it.
the reality is quite the opposite: monetary policy is an area where
pressure from the majority is sorely needed. There is a grand
conflict of interest between the financial sector and the rest of
society. This has become more painfully obvious in the last two
years, as the unmitigated greed of this bloated collection of special
interests collapsed the U.S. economy and dragged a good part of the
world down with it. Our conception of central bank "independence"
is so extreme that Ben Bernanke, who was a Federal Reserve governor
since 2002 and Chairman since 2006, could not even be denied
reappointment -- despite his enormous share of responsibility for an
economic train wreck that caused millions of people to lose their
jobs and homes
He sat on his hands while an $8 trillion housing bubble accumulated,
thus guaranteeing the collapse that followed. But our financial
sector is so politically powerful that even this minimal level of
government oversight -- refusing to reward one of the worst failures
imaginable -- was seen as too offensive to the financial markets.
But even in normal times, the financial sector generally
prefers higher interest rates and lower employment than the vast
majority of citizens would choose. Most people want the economy to be
closer to full employment, and appreciate rising wages. A central
bank that is "independent" of the public's needs and wants,
and caters primarily to those of the financial sector, is therefore
going to cause a lot of needless suffering.
example, prior to the late 1990's, the Federal Reserve subscribed to
a theory called the NAIRU (Non-Accelerating Inflation Rate of
Unemployment). The Fed would tend to raise interest rates when
unemployment fell below a presumed NAIRU, thus slowing the economy,
raising the unemployment rate, and reducing the growth of wages -- on
the theory that this was necessary to keep inflation from getting out
of control. Before the 1990s, the NAIRU for the U.S. economy was
generally considered to be between 5.8 and 6.6 percent. The empirical
evidence for this theory was always very weak
After unemployment fell below 4.5 percent in 1997, and inflation
still did not accelerate, Fed Chair Alan Greenspan finally realized
that this theory was wrong -- and eventually abandoned it.
now today (February 12) International Monetary Fund (IMF) chief
economist Oliver Blanchard, with a new paper "Rethinking
offers that the preferred 2 percent inflation target of most central
banks may be too low. He asks whether 4 percent would be better
The paper questions other central bank orthodoxies and is likely to
cause a bit of a stir in the economics profession.
The problem of "independent" central banks is
even more serious for low-and middle-income countries than for the
rich countries, since they need more co-operation from the central
bank with regard to development policy.
Argentina's case, it is questionable whether the country could have
even begun the remarkable economic recovery that started in 2002
in which the economy grew more than 60 percent in six years, if its
central bank had the kind of independence that the U.S. Federal
Reserve has. One of the government's most important economic policies
required the central bank to target a stable and competitive real
exchange rate, something that would be anathema to most central
bankers. (Interestingly, Blanchard also now suggests that central
banks in emerging market economies may have good reason to pay
attention to exchange rates and try to reduce their volatility
Here in the United States, the Federal Reserve's Federal
Open Market Committee (FOMC) meets every six weeks to set policy,
including short-term interest rates. Five of the 12 voting members
are regional Fed presidents, chosen by local boards where the banking
industry is heavily represented. The CEO of JP Morgan Chase sits on
the board of the powerful New York Fed.
As sometimes happens, the business press -- with the
help of much of the economics profession -- has turned reality on its
head. The problem is not that central banks need to be "independent"
of political influence -- rather they need to be held accountable to
the public instead of answering to the all-powerful financial sector.
Mark Weisbrot is Co-Director of the Center for Economic and Policy
in Washington, D.C. He is also
president of Just Foreign Policy [http://www.justforeignpolicy.org/].
column was published by The Guardian Unlimited on February 15, 2010.
To reprint it, please link to the original
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