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by Chibuzo A. Efobi
(Sept 2006)
 What is the role of a Central Bank in economic development?
Apart from being the apex financial institution within any specified geographical area, there are different schools of thought on what a Central Bank’ emphasis should be in short, medium and long terms (I will not review the empirical evidence of any school of thought).
According to the paper prepared for the Homer Jones Lecture, Federal Reserve Bank of St. Louis, March 30, 2000 by Prof Frederic S. Mishkin – What Should Central banks do?, he opined that recent theorizing in monetary economics suggests seven basic principles that can serve as useful guides for central banks to help them achieve successful outcomes in their conduct of monetary policy. These are:
- Price stability provides substantial benefits;
- Fiscal policy should be aligned with monetary policy;
- Time inconsistency is a serious problem to be avoided;
- Monetary policy should be forward looking;
- Accountability is a basic principle of democracy;
- Monetary policy should be concerned about output as well as price fluctuations; and
- The most serious economic downturns are associated with financial instability.
Also, according to Anan Chandavarkar, central banks have a number of objectives, which can be classified as follows:
- tactical or macroeconomic objectives relating primarily to the domestic price level and the exchange rate
- long-term strategic objectives of financial sector development including the development of an effective payments system and other forms of financial infrastructure and
- sectoral or microeconomic objectives such as prudential supervision and deposit insurance.
The goals of monetary policy include economic growth, low inflation, and currency stability. On management of external reserves, there is no consensus amongst the different schools of thought. However, most commentators now believe that the main contribution that monetary policy can make to economic management in the long run is to maintain low inflation. It is generally agreed that low inflation provides a necessary base for sustained economic growth and development. Indeed, in a number of countries, low inflation has proved important for the development of a sustainable microfinance sector. In some cases governments (e.g. England) have set indicative inflation targets or bands, with central banks expected to maintain the rate of inflation within a target band. It is also generally accepted that central banks are most effective in maintaining low inflation and in performing their other proper functions when they are independent of government.
What are the benefits of autonomy, any correlation between economic stability/growth and an independent Central Bank?
We really do not need to look far to see how essential independent central banks can be. There is established evidence that growing and successful economies are principally driven by a strong, dynamic and independent central bank insulated from political interference.
Obvious benefits include
- absence of political interference in CBN’s monetary policies
- better co-ordination between monetary and fiscal policies
- credibility in announcements and enforcement of rules
- international recognition
- transparency of policies and mechanisms used in their formulation
- career driven incentive rather than cronyism
Although an independent CBN does not guarantee economic growth, especially if we have a government that pursues irresponsible economic/fiscal policies, it is a fundamental positive step forward. Dr. Fabian Amtenbrink, in his presentations during an IMF LEG Workshop on Central Banking in March 2004 and the IMF LEG and IMF Institute Seminar on Current Developments in Monetary and Financial Law in May 2004 (both in Washington D.C.): “The Three Pillars of Central Bank Governance - Towards a Model Central Bank Law or a Code of Good Governance?” stated that independence, democratic accountability and transparency were the key concepts which together should form the basis of the legal framework governing a central bank and on which central bank governance should rest.
It is monetary policy that central bank independence is primarily geared towards.
Institutional independence first of all refers to the central banks power to formulate
monetary policy independently from political institutions. Moreover, it may also refer to a central bank’s freedom to set the final goals of monetary policy. This is also sometimes referred to as political or goal independence.
Finally, by giving CBN the proper mandate and reputation for maintaining price stability, the government can signal in unambiguous terms the strength of its commitment to price stability and economic development. With its full autonomy, what CBN does with its new powers to foster financial stability and economic growth in Nigeria is entirely a different issue.
Organisational structure, Regulatory Environment, Supervisory function and overriding monetary policies are all areas that will be covered within the AllNairaPros Series.
References/Links:
Chibuzo Anthony Efobi is an Accounting graduate from University of Nigeria, holds an MSc International Economics Banking & Finance degree from Cardiff Business School, UK. Prior to his MSC programme, Chibuzo was a banker in Nigeria. He is currently an Asst Operations Analyst (IT) with HSBC and editor for AllNairaPros |
AllNairaPros Series:- An Autonomous CBN soon? - Part1
