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Central Bank Independence and Transparency: Evolution and Effectiveness

  • Christopher Crowe
  • Ellen E. Meade

While central banks have existed since the seventeenth century, their purpose, functions, and operations have evolved over time. Over the past two decades, the pace of reforms in terms of institutional independence and transparency has been particularly brisk. This paper examines the current level of central bank independence (CBI) and transparency in a broad sample of countries using newly constructed measures, and looks at the evolution in both measures from an earlier time period. The legal independence of central banks (measured using an index first constructed by Cukierman, Webb, and Neyapti, 1992) has increased markedly since the 1980s, particularly for emerging market and developing countries, while the rise in transparency since the late 1990s (measured using an index based upon the work of Eijffinger and Geraats, 2006) has been less impressive. Increases in CBI have tended to occur in more democratic countries and in countries with high levels of past inflation. More independent central banks in turn tend to be more transparent, while transparency is also positively correlated with measures of national institutional quality. Exploiting the time dimension of our data to eliminate country fixed effects and using instrumental variable estimation to overcome endogeneity concerns, we present robust evidence that greater CBI is associated with lower inflation. We also find that enhanced transparency practices are associated with the private sector making greater use of information provided by the central bank, consistent with a simple signal extraction model in which the public signal becomes more precise as our transparency measure increases.

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File URL: http://w.american.edu/cas/economics/repec/amu/workingpapers/2007-20.pdf
File Function: First version, 2007
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Paper provided by American University, Department of Economics in its series Working Papers with number 2007-20.

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Length: 30 pages
Date of creation: Nov 2007
Date of revision:
Handle: RePEc:amu:wpaper:2007
Contact details of provider: Web page: http://www.american.edu/cas/economics/

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