Independence Day for the 'Old Lady': A Natural Experiment on the Implications of Central Bank Independence

Centre for Dynamic Macroeconomic Analysis Working Paper No. 0602

30 Pages Posted: 22 Feb 2006

See all articles by Jagjit S. Chadha

Jagjit S. Chadha

University of St. Andrews - School of Management

Charles Nolan

University of St. Andrews

Peter Macmillan

University of St. Andrews - School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: January 2006

Abstract

Central bank independence is widely thought be a sine qua non of a credible commitment to price stability. The surprise decision by the UK government to grant operational independence to the Bank of England in 1997 affords us a natural experiment with which to gauge the impact on the yield curve from the adoption of central bank independence. We document the extent to which the decision to grant independence was 'news' and illustrate that the reduction in medium and long term nominal interest rates was some 50 basis points, which we show to be consistent with a sharp increase in policymaker's aversion to inflation deviations from target. We suggest therefore central bank independence represents one of the clearest signals available to elected politicians about their preferences on the control of inflation.

Keywords: Central bank independence, preferences, yield curve

JEL Classification: E4, E5, N2

Suggested Citation

Chadha, Jagjit S. and Nolan, Charles and Macmillan, Peter, Independence Day for the 'Old Lady': A Natural Experiment on the Implications of Central Bank Independence (January 2006). Centre for Dynamic Macroeconomic Analysis Working Paper No. 0602. Available at SSRN: https://ssrn.com/abstract=882832 or http://dx.doi.org/10.2139/ssrn.882832

Jagjit S. Chadha

University of St. Andrews - School of Management ( email )

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Charles Nolan (Contact Author)

University of St. Andrews ( email )

North St
Saint Andrews, Fife KY16 9AJ
United Kingdom

Peter Macmillan

University of St. Andrews - School of Management ( email )

The Gateway
Gateway
St. Andrews, Fife KY16 9SS
United Kingdom

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