VIII Conclusion

Charles Collyns
Published Date:
March 1983
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This paper has discussed the operations of a wide range of central banking institutions in developing countries. It has been observed that the public responsibilities and executive powers of these central banking institutions are often less extensive than those normally associated with a central bank in a developed country, although development priorities may lead to the acquisition of special functions not found elsewhere. A variety of reasons have been suggested to explain why not all countries have full-fledged central banks. The three central points were:

  • Close integration of the domestic economy with international commodity and capital markets may restrict both the scope and the need for an independent monetary policy.

  • The domestic financial structure may not be sufficiently elaborate to support or require the full range of central banking functions, but may justify special emphasis on particular regulatory and promotional activities.

  • The attempt to ensure a degree of independence of monetary policy from domestic political control may involve legal constraints on central banking powers or the transfer of certain responsibilities to external agencies.

The considerable diversity of economic, financial, and political conditions within the Third World has brought forth a wide variety of central banking institutions. Four polar types have been identified as providing coherent alternatives to the central bank. The transitional central banking institution forms an intermediate step between currency board and central bank. Government typically exerts a strong influence on the activities of the transitional central banking institution, but this influence is checked by statutory limitations on the monetary authority's discretionary powers. The supranational central bank is responsible for undertaking the central banking activities in a group of countries participating in a monetary union. The framework of joint decision taking restricts any individual government's influence over monetary policy. In a currency enclave, central banking activities may be shared between the domestic central banking institution of the developing country and a monetary authority of the larger partner. Monetary policy in the enclave is limited by the dominating influence of the monetary environment of the partner and by the discretionary powers allocated to the latter's authorities. Finally, in an economy open to both commodity and capital flows, the monetary environment is subject to the dominating influence of world markets, and the central banking institution is usually closely involved in the regulation and promotion of the domestic financial structure.

Table 1 summarizes the characteristic features of these four categories and of the currency board and the central bank by assessing each for (1) its involvement in the six central banking functions (the five discussed in Section II plus the promotion of financial development) and (2) the constraints placed on independence of policy selection and execution. It should be apparent from the survey of country experience provided in this paper, however, that the actual diversity of central banking institutions is not fully captured by this classification, and that, in practice, a monetary authority often displays characteristics combining features of more than one of the proposed polar types.

Table 1.Alternative Central Banking Institutions
InstitutionCurrency IssueBanker to governmentBanker to commercial banksRegulation of financial institutionsOperation of monetary policyPromotion of financial development
Full-fledged central bank33333G1
Supranational central bank3E2E222E2
Open economy central banking institution3C2C2313
Transitional central banking institution3CG2C212G3
Currency enclave central banking institution1,2CE2CE2113
Currency board3C11111
Key:1 = limited involvement2 = substantial involvement3 = full involvementC = considerable constitutional restrictionsE = considerable external influenceG = considerable government influence
Key:1 = limited involvement2 = substantial involvement3 = full involvementC = considerable constitutional restrictionsE = considerable external influenceG = considerable government influence

In the end, it may be asked how much the choice of central banking institution really matters. It could be argued that what counts in the final analysis is the balance of political power between the government and monetary authority. On this view, the important factors influencing policy decisions would include the personalities of politicians and senior officials, and the support each group could draw from other sources; while the legal and organizational framework within which decisions are made would be largely irrelevant.

Historical experience certainly indicates that legislation on its own may not be enough to guarantee prudent behavior. While many countries' central banking institutions have not yet come close to violating foreign exchange cover requirements or restrictions on government lending, in other cases the rules have simply been sidestepped by technical adjustments, altered expediently, or merely ignored. The question arises as to whether such rules are actually enforceable, especially when expressed in a flexible and imprecise form. It seems likely that the prospect of a foreign exchange crisis would act as a more powerful deterrent to financial profligacy, and that the ultimate discipline to monetary policy would lie in external limits on borrowing from world financial markets. Nevertheless, rules do have symbolic importance in establishing confidence in the new monetary order in the early stages of a transition, and especially if the transition involves the introduction of a new national currency. Conversely, the deletion of apparently inoperative constraints on fiduciary issue or lending to government might create expectations that the authorities did in fact intend to violate their conditions. Even if the rules in force served no immediate purpose, their removal could still have an undesirable destabilizing effect on the system.

The organizational structure established by legislation probably plays a more positive part in determining a central banking institution's characteristic behavior. Operating procedures, channels of communication, and lines of command all exert some influence on where and how decisions are made in practice. Seemingly mundane matters, such as rights of access for consultation and powers of appointment, may ultimately be more relevant than the more grandiose objectives and powers enshrined in the central banking legislation. The balance of power between government and monetary authority does not only depend on personality and outside support but will also be influenced by the institutional framework in which their interaction is established. Otherwise, much less attention would be devoted to the design of central banking institutions than has been throughout the world—from Bhutan, now setting up its very first monetary authority, to the United States, where relations between the Federal Reserve Board and the Executive have been the subject of continuing debate. While limits may exist to what can be achieved by statutory means, the existence of such limits merely underlines the need for care and attention to the legislative and organizational form of central banking institutions.

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