End of an era for central bank independence?

Reserve Bank deputy governor Guy Debelle has valiantly moved to quash criticism that that central bank independence is a thing of the past.

“Its legitimacy and effectiveness are under scrutiny. Is this the end of the era of central bank independence? The answer to that question is no,” Guy Debelle told an audience at a Bank of England conference in London last night. 

"Central bank independence does not imply the complete delegation of demand management to the central bank," Debelle said.

"The achievement of the output and inflation goals of the central bank is very much a function of the fiscal response too. There is a risk that the cult of central bank independence has placed excessive pressure on the central bank to always do more."

In his view, central bank independence was in the ascendancy twenty years ago when the Bank of England was given its independence to pursue its inflation-targeting goal with complete instrument independence. 

Debelle noted the important distinction between goal and instrument independence, arguing that central banks should be goal dependent but have instrument independence. 

“That is, the goal(s) that the central bank is pursuing should be determined by the political process. But, once given the goal, the central bank should be able to pursue the goal as it sees fit, with appropriate accountability. 

“I do not regard central bank independence as fighting yesterday’s war. The theoretical and empirical underpinnings of central bank independence remain as valid today as they did twenty years ago. The links between monetary policy, fiscal policy and financial stability policy may be more prominent now than they were two decades ago. 

“One can question the central bank’s understanding of the functioning of the macroeconomy and the monetary policy transmission process, but that is a separable issue from the validity of independence." 

Open question

That said, he told the audience, the questioning of the framework itself is a vital quid pro quo for independence. 

“The accountability of central banks to the political process and the public more generally is critical. To be able to take independent decisions about the appropriate stance of monetary policy, a central bank has to appropriately justify them.”

While the combination of goal dependence and instrument independence in terms of monetary policy has stood the test of time, he went on to say, the equivalence in terms of financial stability is more an open question. 

“Both the goal of financial stability and the instruments are much less clearly defined at present. While central bank independence in terms of monetary policy was all the rage in the first part of the 1990s, a similar focus in terms of financial stability today is warranted. The subsequent economic performance of the UK economy validates that choice of regime,” according to the deputy governor. 

“The macro-economic outcomes through the remainder of the 1990s until 2007 certainly do. Whatever failings led to the financial crisis and its long-lived consequences, I am not convinced that central bank independence was a contributing factor. 

“Indeed, I think the experience of the UK economy through the past decade underlines the value of the independence given to it.”

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