Case for and Against Central Bank Independence - Paper Example

Introduction

Banking institutions play a critical role within any economy. Due to this, there is a need to have a strict regulation around banks. The institution that is charged with the responsibility of management is the central bank in most countries. In the case of Norway, there is the Norges Bank which is the country's central bank. Many different arguments have been put forth on whether central banks should be independent or not. The arguments for independence consider that when the central bank is independent, it has better control to implement growth and control stability while the arguments against independence view it as ensuring that the central bank is not given too much power that may result in policies that end up being detrimental to the economy. Whatever case that is presented, arguments for or against independence need to be understood well.

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Central bank independence is not desirable in markets that are as efficient as Norway's. As it is, the Norges Bank (Norway's central bank) has the responsibility of using monetary tools to control money flow in the economy. When left to consider how to apply the tools independently, the central bank may lead to inflationary pressures in the economy (Masciandaro & Romelli, 2015). This is because an inadequate application of the tools may easily lead to higher inflation. In this case, therefore, there is a need to ensure that the central bank is not left to consider the use of monetary tools to avoid inflation independently. This is as a result of central banks having been said to be short-sighted in their application of financial instruments as the office bearers would be interested in ensuring that their performance is applauded for the period that the regime is in office. As a result, they may end up coming up with policies that favor their time in office that may not necessarily be beneficial to the economy in the long run. As such, central bank independence should not be encouraged.

Central bank independence is also not desirable in cases where the country is in debt. This is because when the central bank is independent, the deficit effect is always worsened by the fact that the central bank is independent. In cases of a debt position, the government would use various tools such as monetary and fiscal policies to control the debt level (Papadamou, Sidiropoulos, & Spyromitros, 2017). But where the central bank is substantially independent, the government loses its power to control fiscal and monetary policies to a great extent. As a result, the government is forced to go deeper into debt to meet its maturing debt obligations thus leading to greater deficit levels. To ensure that the government retains control, therefore, there is a need to provide that they do not let the central bank be independent.

In cases where the central bank is independent, it will mean that external factors such as political interference do not influence it. In cases where a country's politics are let to change a country's central bank, the result would be such as undesirable shocks in the economy for instance inflation. Such would be as a result of governments wanting to exert political influence to introduce an increase in the marketplace to for instance deal with unemployment in the short run (Weber & Forschner, 2012). In cases where the central bank is independent, then such instances would be avoided to the benefit of the economy in the long run. This is because the central bank would be more conservative as it should and as a result ensure that there is price stability in the economy. Additionally, a lack of influence from external parties will give credence to the central bank. This is important as the economy will be in control from the institution mandated to ensure that its stability is guaranteed.

Conclusion

Growth and innovation are essential in every sector of an economy. Much of growth will always be influenced by change. Banks being central in the economy of a country will mean that they will need to be allowed to be innovative. The central bank will always be on hand to approve or disprove any innovations developed by banks. To allow for such change and growth within the banking sector, therefore, will mean that the central banks must be allowed to operate independently (Crowe & Meade, 2007). This is because a lot of interference will result in a lack of growth in the banking sector. For instance, in cases whereby there are financial innovations to be used by banks are developed, they will need a clear channel to implement. As such, they are easier to implement and run when there is less interference. As a result, the central bank being independent would be the only institution charged with the responsibility of ensuring that innovations within the banking sector are acceptable or not.

As elaborated, there would be a different case for or against the independence of central banks. In some cases, the freedom would be preferred as it allows for better control and innovations along the economy and banking institutions. On the other hand, arguments against independence would be that it will enable avoidance of getting deeper into debt and loss of control by the government. In whichever case, the freedom of central banks has far better benefits as compared to cases whereby the central bank is not independent.

References

Crowe, C., & Meade, E. E. (2007). The Evolution of Central Bank Governance around the World. Journal of Economic Perspectives, 69-90.

Masciandaro, D., & Romelli, D. (2015). Ups and downs of central bank independence from the Great Inflation to the Great Recession: theory, institutions, and empirics. European Association for Banking and Financial History, 259-289.

Papadamou, S., Sidiropoulos, M., & Spyromitros, E. (2017). Is There a Role for Central Bank Independence on Public Debt Dynamics? Journal of Applied Finance & Banking, 103-117.

Weber, C. S., & Forschner, B. (2012). ECB: Independence at Risk? Leibniz Information Centre for Economics, 45-50.