Central banks should be independent of political interference

THE EDITOR, Madam:

“Politics is the art of looking for trouble, finding it whether it exists or not, diagnosing it incorrectly, and applying the wrong remedy”- Ernest Benn.

With the highly anticipated US elections due Tuesday November 5, 2024, promises and statements are sometimes made that indicate that persons are looking for trouble. Donald Trump, for example, has been making utterances about what he will do if he becomes president. On August 8, 2024, Reuters reported that Donald Trump explicitly stated that US presidents should have a say over decisions made by the Federal Reserve. Trump said further: “I think that in my case, I made a lot of money, I was very successful, and I think I have a better instinct than – in many cases – people that would be on the Federal Reserve or the chairman.”

Despite his bold proclamation, I believe it is critical that a country’s central bank should remain independent from political influence for two main reasons. The first is to maintain price stability. The mandate of central banks is to control inflation and support the country’s financial and economic stability, and as such, these institutions are evaluated by their success in maintaining price stability. Political interference (pressure) will add an inflationary bias to monetary policies due to politicians’ short-sighted goals. As was seen following the COVID-19 pandemic, most central banks came under pressure from their various governments to lower interest rates. Politicians think about the immediate happiness of people, like getting spending money into the hands of the public. However, this will lead to high inflation.

American history will attest to what happened when political interference with the Federal Reserve (US central Bank) negatively impacted the economy. Arthur Burns is remembered as the federal chairman in the 1970s who let inflation run rampant. There are different theories as to why Burns allowed this to happen, one being the political pressure he faced from then President Richard Nixon, who was seeking re-election.

Central banks should also remain independent of political influence to protect their credibility. The bank’s credibility is enhanced by its independence and such is very important in maintaining long-term expectations. When credibility is undermined by political interference or influence, the populace who set prices is less likely to believe the bank’s commitment to lowering inflation which can in turn lead to higher inflation.

Jamaica’s outgoing Minister of Finance and the Public Service, Dr Nigel Clarke, in an article in The Gleaner dated December 13, 2020, titled, Building institutions for the future – Part 1 – An Independent Central Bank, highlighted the significance of an independent central bank. He stated that legislation like the Bank of Jamaica (BOJ) Amendment Act provides the framework for ensuring that the government’s monetary policies and targets, including inflation rates, are carried out by the BOJ as its primary objective.

Clarke explained that “the government will set the inflation target, expressed as a range, to be consistent with the government’s growth and employment objectives. However, the BOJ amendment bill empowers the BOJ and grants it operational independence”.

While the government has a responsibility to regulate central banks through policies and legislation, it is important that a country’s central bank remains independent. Evidence shows how independence has coincided with long-term decline in inflation in many economies.

EARLAND MORGAN

Lecturer in Finance (University

of Technology Jamaica)

earland.morgan@utech.edu.jm