Describe Qualities of Effective Central Banks

The central bank of any nation worldwide has the main responsibility of managing the monetary policy of the country. They also often have the responsibility of maintaining price stability and inflation.

To be more effective in their responsibilities, central banks need to have the significant qualities highlighted below.

Transparency

This means that effective central banks update people on the status of the economic environment once in a while. They do this by producing reports and airing their views on economic indicators used to develop the monetary policy. Finally, transparency helps central banks in gaining credibility.

Independence

A central bank should be free from any political influences. Central banks and political parties at times differ in goals. For example, when inflation rises, the central bank wants to reduce the supply of money. This leads to a decrease in economic growth. On the other hand, politicians aim to increase employment and boost economic growth, regardless of the status of the economy.

If the central bank is influenced by politicians, it cannot combat inflationary pressures.

Credibility

There is the need for the citizenry to believe in the measures taken by the central bank of their country. Public confidence is key in an inflation-targeting era.

Credibility becomes more significant in times of high uncertainty. This quality of effective central banks is less about specific policies and more about the overall confidence in the policies enacted by central banks.

Question

Politicians and central banks sometimes have the same goals and objectives. Which of the following is the least likely objective of politicians?

A. Increasing economic growth

B. Increasing employment levels

C. Combating inflationary pressures

Solution

The correct answer is C.

Combatting inflationary pressures is the role of central banks. On the other hand, politicians usually give more importance to increasing employment levels and boosting economic growth.

Reading 16 LOS 16j:

Describe qualities of effective central banks