Whether it is interest rates, inflation or exchange rates, central bank decisions can have profound implications for businesses. Keeping up with central bank decision-making processes is essential to staying ahead of changing market conditions. Interest rates affect borrowing costs, inflation can erode purchasing power and exchange rates influence import/export business. In addition, a stable financial system ensures access to credit and protects against financial crises.
The political debate on central bank independence grew in intensity after World War II. As the world reconstructed its war-shattered economies, politicians wanted to establish control over their macroeconomic policy. However, the emerging trend was toward a more independent central bank that would operate outside of government intervention.
A large academic literature explores the merits of central bank independence. The classic works include three influential papers by Finn Kydland and Edward Prescott, Robert Barro and David Gordon, and Alex Cukierman, Steven B. Webb, and Bilin Neyapti. Their work showed that monetary policy autonomy is associated with lower inflation in developed countries.
The debate on independence has evolved over the years and the focus now centers on the specific process by which a central bank makes its decisions. The formal set-up of monetary policy committees can be broken down into two categories: individualistic, where the decisions are made by the committee members; and collegial, where the decisions are reached through collective deliberations. The article compares the decision-making processes of the Bank of England, the Federal Reserve and the European Central Bank over more than 20 years to assess how different the process is.