Is the era of central bank independence drawing to a close? With Donald Trump returning to the White House the question has to be asked. The incoming president has made no secret of his desire to bring the Federal Reserve, guardian of the world’s pre-eminent reserve currency, to heel.
Of course, the merits of independent central banking can be overstated. Central bankers have credited themselves with delivering sustained low inflation in the 1990s and 2000s — the Great Moderation — when in reality stable prices were largely the product of a global labour market shock. This resulted from the incorporation of China and other developing countries into the world economy. There followed a profound shift in the balance of power between labour and capital and a tilt in the distributional struggle between debtors and creditors in favour of the latter. Nor have central bankers distinguished themselves in managing the recent upsurge in inflation following the Covid pandemic and Russia’s invasion of Ukraine.
Yet the alternative to central bank independence is scarcely palatable. Think only of the wholesale politicisation of monetary policy at times in Turkey or Argentina to register the point. The ability to carry out monetary policy insulated from governmental pressure is clearly valuable. The logic is that elected governments have an incentive to lower unemployment in the short run at the expense of longer run impacts on inflation and growth. They also have an incentive, when heavily indebted, to rely on inflation to reduce the real value of debt obligations.