TheFederal Reserve has over time been a question of discussion in theUnited States congress. Some politicians are for the supreme controlof the Federal Reserve But the critics argue that in order for theFederal Reserve to perform effectively, it must be left independent.The core reason why the Federal Reserve exists is to overlook theeconomic status of the country. It is evident from the past thatpoliticians cannot run such a professional entity. The politicalcycle business in the United States also commands an independentFederal reserve so as to safeguard the economy from policiesformulated by the Politicians to favor then in their next elections.This project analyzes the reasons why the Federal Reserve should beleft independent. The goal is to show that it is able to achieve itscore objective more perfectly when independent than when itsindependency has been compromised. The aim of this paper is toanalyze the core reasons why the central bank should be left to beindependent from the three arms of the government and any otherpolitical agencies or figures.
TheFederal Reserve is an independent government entity that isaccountable to the public and the Congress. The key objective of theFederal Reserve is to maintain stable prices and maximize employmentin the economy in its administration of the monetary policy. Manypeople are not aware that the federal reserve an independent agencythat conducts the monetary policy of the United States.Thedecisions of the Federal Reserve are not required to be ratified bythe president or any other arm of the government for them to be putinto practice. The Federal Reserve obtains its funding from thecongress and itsboard of governors. They are appointed to serve inthe reserve for a fourteen year before another board is appointed(Cargill& O`Driscoll Jr, 2013).The governor’s appointments are set in a way that they do notcoincide with the general elections thus improving on theindependence of the agency.
TheCongress has the mandate to oversight the operations of the FederalReserve to ensure that it achieves the objectives it is meant to thatare maximum employment and stable prices in the Economy. Butsometimes, the Congress had wanted to pass legislations that are toput the Federal Reserve under their control. Politicians who opposethe Federal Reserve policy always want to put the Federal Reserveunder their control so as to formulate policies that favors them andtheir short run dreams (Conti-Brown,2016).
Theprimary reason why the Federal Reserve should remain independent fromthe other arms of the government and politics is the fact thatsubjecting the Federal Reserve to any pressure will lead to aninflationary bias to the monetary policy. Many critics argue thatmany politicians in a democratic economy are concerned more of theshort-run benefits since they are concerned more with the need to winthe next election (Gadinis,2013).With this as their primary objective, they are not likely to focus onthe long run effects of the policies they may formulate. Such goalslike addressing the unemployment level in the economy and stabilizingprices may not be addressed adequately in case the Congress controlsthe Federal Reserve. Instead, they will be more interested inseeking solutions that will solve the problem in the short-runwithout looking unto the long run effects of the solutions theyundertake to solve the problems. For example, the Congress may chooseto increase the money growth rate to so solve the high-interest rateproblem, but in the long run, this may have an undesirable long-runeffect on the economy. Inflation will heat up, and prices will gounstable (Conti-Brown,2016).
Also,when looking at the current fiscal situation that has been created bythe elected branches of the government, they cannot be entrusted thecontrol of the controller of the economy. The Federal Reserve will beunder pressure to do what will make the party in a position to winelections rather than conduct its core objective (Cargill& O`Driscoll Jr, 2013).Politically insulated Federal Reserve is more likely to pursue thepolicy of excessive money growth in the economy and eventually reducethe interest rates than in a case where the Federal Reserve iscontrolled by the president. An independent Federal Reserve is moreinterested in the long-run objectives and thus fights for stableprices in the economy and a sound dollar in the future.
TheUnited States is currently experiencing a political business cyclefavored by their political process. Politicians who are in power passexpansionary policies with an aim to reduce unemployment and interestrates. This is mostly done before the next elections so as to blindthe citizens to vote them in for another term. But after theelections, the effects of the policies -increased inflation and highinterest rates- start popping out. The same politicians who passedthe policies to suit their primary goals come up with contractionarypolicies to try carp the effects of their expansionary policieshoping that the voters will forget before the next elections(Gadinis,2013).Therefore placing the Federal Reserve will give the politicians abroader field to come up with more policies that may be more harmfulto the economy or even crush the economy.
Anotherreason why the Federal Reserve should remain independent is the riskassociated with the treasury controlling the Federal Reserve. In casethe Federal Reserve loses its independence and becomes moresubjective to the Treasury, the Federal Reserve can be pressured tofinance large treasury debts. This can be through buying Treasurybonds or printing money a factor that will in return accelerateinflation in the economy. An independent federal reserve, therefore,can resist such pressures from the other arms of the government incase of their occurrence
TheFederal Reserve is composed of elites who have experience in economicfactors and predictions. Therefore and independent decision making byprofessionals helps the country achieve the desired economicenvironment. In case the Federal Reserve loses its independence,their decision making will be subject to the Congress. Therefore theprocess of decision-making by the central bank will be retarded thusslowing economic growth (Hogan,2015).In some extreme cases where spontaneous decisions are required so asto save the economy, the Federal Reserve cannot meet the timelinesince the congress procedure involved before a decision is made.
Additionally,the core objective of the Federal Reserve is too sensitive to be leftto politicians to control. Most politicians have the little know-howof the monetary policy and have from the past demonstrated a lack ofprofessionalism in making decisions on issues about the economy ofthe country. For example, when it comes to policies to reduce thebudget deficit band reforming the banking systems, politicians cannotbe able to come up with viable strategies that will drive the economyto stability (Hogan,2015).Instead, they will run for their primary objective of retaining theirseat in the next election. When it comes to the principle Agentproblem, both the Fed and the politicians have an obligation to servethe public. But both of them have incentives to act on interestsrather than serving the public. The reason why the Federal Reserveshould be independent though is the fact that the politicians aresuffering more from the principal-Agent problem as compared to theFederal Reserve since politicians have lesser incentives to work onfor the public interest (Hogan,2015).
Manypeople complain about the secrecy of the Federal Reserve and thespecial treatment given to the Federal Reserve. But it might be thatthis person doesn`t like the banks and financial institutions thedays and have displaced their anger to the Federal Reserve, anorganization that only controls the financial institutions with theaim of preventing consumer exploitation by the banks. The FederalReserve publishes their balance sheet publicly, and therefore nothingis hidden from the public. Therefore before rushing into snatchingthe fed its independence, it’s better if we review its importanceand what could happen if the politicians take control of the monetarypolicy. The increased inflation rates, unstable prices and anincrease in the political cycle which is already taking root in theUnited States (Kohn,2013).Also, the risks associated with a Fed that is not independent likepressures from politicians with personal interests and the treasury.
Conclusively,the central bank is the controller of the economy of any country. Itis evident from the countries whose central bank is controlled by thegovernment how their economy has failed. The problems that areassociated with a central bank that is not independent are clearlyseen in such countries. High levels of inflation and unstable pricesare the order of the day in such countries. Politicians also takethat as an opportunity to come up with policies that favor theirinterests in the short run. A Federal Reserve that is not free is notable to stand against any pressure from the government since theboard of director’s face the risk of losing their jobs in case theydon’t cooperate with the government. This leads to the formulationof policies that have negative long-run effects on the economy of thecountry. Therefore the Federal Reserve should continue to maintainits status as an independent agency so as to perfume its obligationperfectly without any influence from the government or powerfulpolitical figures
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Conti-Brown,P. (2016). Thepower and independence of the Federal Reserve.Princeton University Press. (Conti-Brown, 2016)
Gadinis,S. (2013). From independence to politics in financialregulation. CaliforniaLaw Review,327-406.
Hogan,T. L. (2015). Has the Fed improved US economic performance? Journalof Macroeconomics, 43,257-266.
Kohn,D. (2013). Federal Reserve independence in the aftermath of thefinancial crisis: should we be worried? BusinessEconomics, 48(2),104-107.