The Side Effects of Central Bank Independence
Forthcoming at the American Journal of Political Science
34 Pages Posted: 22 Jun 2016 Last revised: 9 Mar 2019
Date Written: September 17, 2018
Central bank independence (CBI) solves the time inconsistency problem faced by policymakers with respect to monetary policy. However, it does not solve their underlying incentives to manipulate the economy for political gains. Unable to use monetary policy, and often limited in their ability to use fiscal spending, governments can resort to financial deregulation to generate short term political benefits. We show qualitatively and quantitatively that governments systematically weaken financial regulations in the aftermath of CBI, and that the effect of CBI is separate from an ideological shift toward liberalization. Our findings suggest that the growing financialization of the economy experienced by many countries over the last few decades is partly a by-product of central bank independence.
Keywords: central bank independence, liberalization, financial deregulation, financialization
JEL Classification: D78, G18, G28, E58
Suggested Citation: Suggested Citation