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Merits and Drawbacks of Central Bank Independence - Essay Example

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This paper discusses focuses on the independence of central bank and discusses the merits and drawbacks that are associated with an independent central bank. This paper has shown that central bank plays a major economic role in a country and focused on the existing debate on central bank independence…
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Merits and Drawbacks of Central Bank Independence
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Download file to see previous pages Money is important in the economy of a country due to the several functions it serves. Since central banks are charged with critical roles, it becomes challenging for most countries to decide whether the mandate of the central bank should fall under the control of the executive or whether the institution should operate autonomously and independently. This paper discusses focuses on the independence of central bank and discusses the merits and drawbacks that are associated with an independent central bank.
The theoretical case for central bank independence is founded on the notion that price stability is critical and is the main objective of any monetary policy. However, politicians of a country are mainly not interested in fully safeguarding this major objective of the monetary policy since their concern is focused on the short term and politically dependent central banks. To address this, it becomes vital that the main objective of monetary policy is entrusted to agents that have a long term focus and who are not politically elected by the masses. Theoretically, central bank independence is considered to a solution to three major problems. First, this is considered to have the capacity of making it difficult for fiscal authority and policy to have relative dominance on the monetary authority and policy. Additionally, based on the models of political business cycles and partisan cycles, central bank independence is considered to provide protection to society against the distortions that business or partisan cycles can result into. Finally, basing on the dynamic inconsistency theory, central bank independence is considered an effective way of addressing dynamic inconsistencies in monetary policy.
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