The independence of the central bank, which is the most important basis to allow its sound monetary policymaking, is not synonymous with it being unruly or unaffected by the country’s economic conditions; rather, it is a tool designed with regard to the political economy governing relations between major decision-makers to ensure monetary policies serve as effective tools to tame inflation, says Hossein Abbasi, a lecturer in the University of Maryland’s Department of Economics.
A translation of his article for the Persian economic daily Donya-e-Eqtesad follows:
Today’s economies are complex. The dimensions of economic activities are very large; they are diverse and the economic ties are close. This complexity both defines multiple goals for the economy and provides decision-makers with multiple tools to pursue those goals. As a result, in almost every sector, there is a need for a group of specialists who focus all their attention on fathoming relationships that exist in that sector and designing the appropriate tools to achieve certain goals.
The central bank is a perfect example of an organization whose compromise could hurt the entire economy. High inflation disrupts all activities and reduces the welfare of society, particularly that of the low income groups. Curtailing inflation is the main, primary and exclusive task of central banks.
Central banks are believed to have other responsibilities such as helping economic growth, reducing unemployment or regulating the exchange rate. However, other specialized organizations have been established for other goals whereas controlling inflation is the exclusive responsibility of the central bank; everyone holds the bank accountable when inflation goes up. Many other variables change, thanks to their relation to monetary variables; the central bank monitors these variables but in the end, its main goal is to regulate inflation.
The inflation rate increased in many advanced countries in 2022; many factors, including interruptions in the supply chain or printing money to pay financial aid during the pandemic, were blamed for the rise in inflation. However, the central banks were not presumed innocent.
Many economists believe that if these factors had a role in increasing the inflation rate, the central bank, as a specialized institution for controlling inflation, should have included them in the calculations. Even external shocks do not reduce the central bank’s responsibility in controlling inflation.
Meaningless?
Recently some officials have claimed that the independence of the central bank is meaningless, as the central bank governor is being appointed by the government (the president or the economy minister); if the government asks the governor to print money to address budget deficit, they have to obey.
The first part of this argument, which refers to picking the person in charge of monetary policymaking, is true all over the world but the second part is not; the experience of all developed countries and many developing countries is before our eyes.
The appropriate monetary policies in these countries were adopted by the same people appointed by the government. At the same time, these countries registered low inflation rates, thanks to the independence of their central banks. In a handful of countries, monetary policies are taken to satisfy politicians’ whims to increase costs; the outcome of these policies manifests in the form of an uncontrollable inflation.
Mechanisms to Maintain Independence
Many mechanisms can be used to maintain the specialized independence of a professional organization like the central bank. Some of these mechanisms will be mentioned below, however it may not be suitable for all countries to use all these mechanism simultaneously, but a combination of them would promote the independence of the Central Bank of Iran.
The most important mechanism is independence in decision-making. Doctors, judges, engineers and anyone who makes decisions in their field of expertise should be immune to the interference of non-experts. Likewise, monetary policies should be adopted only by monetary policy experts.
Collective decision-making and the presence of non-experts simply allow political motives to impact professional decisions; such a move derails correct decision-making.
Obviously, professionals should be accountable for the consequences of their decisions; such accountability cannot be achieved by tying their hands when it comes to adopting policies.
One of the mechanisms to promote the professional independence of experts is not to allow those who have appointed them to be in charge of dismissing them. This method is employed when it comes to appointing and dismissing judges. The logic is that the expert should not be afraid of being dismissed for refusing to obey the destructive orders of the person who appointed them.
Undoubtedly, a mechanism should be designed to remove the expert who cannot perform their duties; in some countries, the opinion of the majority (more than two-thirds) of parliamentarians is the basis for the dismissal of experts.
Another method is to appoint an expert for a certain period without the possibility of extension. This period should not coincide with the transition of governments and is usually longer than political terms. The expert’s term should not be allowed to extend to avoid their capitulation to the will of the politicians in order to remain in office.
Budgetary independence also guarantees the health of specialized organizations. Politicians should not be able to force the monetary officials to accept their demands by threatening to reduce the budget of the central bank.
The bank’s budget and the salaries of its specialists should not be determined by political institutions. You cannot expect CBI to act independently without making it financially independent.
And, of course, it is vital for a person at the helm of a specialized position such as the head of the central bank to be scientifically reputable among the experts of the field.
In short, the independence of the central bank is both possible and desirable, despite the role of politicians in appointing its chairman. There are conditions that make this independence stronger and improve the chances of taking effective decisions. Creating those conditions will be a great help in ensuring the health of the economy.
