Qualities of Effective Central Banks

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

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

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  politicians influence the central bank, it cannot combat inflationary pressures.

Credibility 

There is the need for the citizenry to believe in the measures taken by their country’s central bank. 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?

1. Increasing economic growth.
2. Increasing employment levels.
3. 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.