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Sunday, March 27, 2016

Central bank independence has defined a number of types of independence-Explain

Central bank independence has defined a number of types of independence. These are-

Legal independence
The independence of the central bank is enshrined in law. This type of independence is limited in a democratic state; in almost all cases the central bank is accountable  at some level to government officials, either through a government minister or directly to a legislature. Even defining degrees of legal independence has proven to be a challenge since legislation typically provides only a framework within which the government and the central bank work out their relationship.
 
Goal independence
The central bank has the right to set its own policy goals, whether inflation targeting, control of the money  supply,  or  maintaining  a  fixed  exchange  rate.  While  this  type  of  independence  is  more common, many central banks prefer to announce their policy goals in partnership with the appropriate government departments. This increases the transparency of the policy setting process and thereby increases the credibility of the goals chosen by providing assurance that they will not be changed without notice. In addition, the setting of common goals by the central bank and the government helps to  avoid situations  where monetary and fiscal policy are in conflict;  a policy combination that is clearly sub-optimal.
 
Operational independence
The central  bank has the independence  to determine  the  best way  of  achieving  its policy  goals, including the types of instruments used and the timing of their use. This is the most common form of central bank independence. The granting of independence to the Bank of England in 1997 was, in fact, the granting of operational independence; the inflation target continued to be announced in the Chancellor's annual budget speech to Parliament.
 
Management independence
The central bank has the authority to run its own operations (appointing staff, setting budgets, and so on.) without  excessive involvement  of the government. The other forms of independence are not possible unless the central bank has a significant degree of management independence. One of the most common statistical indicators used in the literature as a proxy for central bank independence is the "turn-over-rate" of central  bank governors. If a government is in the habit of appointing and replacing the governor frequently, it clearly has the capacity to micro-manage the central bank through its choice of governors.
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