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Monetary Policy, Central Banks’ Independence, and Financial Development in Africa

In: The Economics of Banking and Finance in Africa

Author

Listed:
  • Joshua Yindenaba Abor

    (University of Ghana Business School)

  • Abel M. Agoba

    (Coventry University)

  • Zakari Mumuni

    (Bank of Ghana)

  • Alfred Yawson

    (The University of Adelaide Business School)

Abstract

There is a close relationship between monetary policy and financial development. Financial systemsFinancial system are essential to monetary policy as they act as conduits by which central bank policy tools are implemented. These tools are expected to influence financial market prices, reflecting market participants’ expectations about economic and monetary developments. Because monetary policy primarily works through expectations, its effectiveness is dependent on the transparency and credibility of the monetary policy framework. This is important because the evidence on monetary policy effectiveness has been largely inconclusive. There have been arguments that this could be conditioned on the independence of the central bank. We analyse the usefulness of central bank independence (CBI) in explaining the impact of monetary policy on banking sector and capital market development in Africa using Two-Stage GMM, Two-Stage Least Squares, and Fixed Effects estimation techniques, with data spanning 1970–2014 on 48 African countries. Using policy rate, money supply, and real interest ratesInterest rate as measures of monetary policy stance and CBI data from Garriga (2016) and Bodea and Hicks (2015), we find that monetary policy effectiveness on financial development is higher for the banking sector than for capital markets. Central bank independence has a significantly positive impact on both banking sector and capital market development. The effect of monetary policy on financial development is enhanced by CBI as the magnitude of its impact on financial is higher in the presence of higher levels of CBI in Africa. The policy implication for these findings is that monetary policy credibility is essential for financial development in Africa. This credibility could be found in making central banks in Africa independent of political control.

Suggested Citation

  • Joshua Yindenaba Abor & Abel M. Agoba & Zakari Mumuni & Alfred Yawson, 2022. "Monetary Policy, Central Banks’ Independence, and Financial Development in Africa," Palgrave Macmillan Studies in Banking and Financial Institutions, in: Joshua Yindenaba Abor & Charles Komla Delali Adjasi (ed.), The Economics of Banking and Finance in Africa, chapter 0, pages 227-267, Palgrave Macmillan.
    • Handle: RePEc:pal:pmschp:978-3-031-04162-4_7
    DOI: 10.1007/978-3-031-04162-4_7
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