LONDON, Jan 13 (Reuters) – The Trump administration’s decision to open a criminal investigation into the head of the Federal Reserve has intensified fears about the independence of the U.S. central bank, the top policymaking body for the world’s biggest economy.
President Donald Trump has criticised the Fed and its chair, Jerome Powell, for not lowering interest rates fast enough.
Top officials from other central banks rallied around Powell on Tuesday, saying in a statement that “the independence of central banks is a cornerstone of price, financial and economic stability in the interest of the citizens that we serve”.
Following is a summary of how independence became key to the way central banks around the world run their economies.
FED LED THE WAY
The Federal Reserve was granted operational independence in 1951, after rising inflation exposed the limits of a monetary policy designed to depress borrowing costs during World War Two.
While the Fed was a pioneer in many respects, it was not until 25 years later that it fully shook off political interference in the setting of interest rates.
Pressure exerted by former president Richard Nixon to keep borrowing costs low ahead of his 1972 re-election campaign is widely seen as a contributing factor, along with a leap in oil prices, to the surge in inflation later in the decade.
HIGH INFLATION – NEW SYSTEM
After suffering the damage wrought by high inflation in the 1970s and early 1980s, governments around the world looked at new ways to run their economies.
Many of them removed power over interest rate decisions from politicians and put it in the hands of officials who were tasked with keeping inflation low.
By the end of the 20th century, 80-90% of the world’s central banks had operational independence, according to the Bank of England.
INDEPENDENCE – DOES IT WORK?
Some credit for low inflation over much of the last 30 years lies with other factors, such as the emergence of China and other exporting nations whose low-cost goods helped keep a lid on prices.
But academics have repeatedly linked the level and volatility of inflation to the degree of central bank independence across a range of countries, entrenching its position as a main tenet of policymaking in recent decades.
In Britain, uncertainty about inflation fell by a factor of around four after the BoE became independent in 1997 compared with the previous 20 years, the former chief economist of the BoE Andy Haldane said in a speech in 2020.
CRISIS CHALLENGES
Broad support for independent central banking came under strain during the global financial crisis of 2007-09, which was linked to lapses by central banks and other regulators charged with monitoring risk in the banking system.
