Central Bank Independence and Hyperinflation

Full Answer Section

Introduction

Hyperinflation is a very serious economic problem. It is defined as a sustained increase in the general price level of a country’s currency. This can lead to a number of problems, including:

• A loss of purchasing power for consumers
• A decline in the value of savings
• An increase in the cost of living
• Political instability

There are a number of factors that can contribute to hyperinflation. These include:

• Government budget deficits
• Excessive money printing
• Wars or other major disruptions to the economy

Central Bank Independence and Hyperinflation

One factor that has been shown to be correlated with hyperinflation is the degree of central bank independence. Central bank independence is the extent to which a central bank is free from political interference in its monetary policy decisions.

There are a number of reasons why central bank independence may be important in preventing hyperinflation. First, independent central banks are less likely to be pressured by politicians to engage in excessive money printing. Second, independent central banks are more likely to have a clear mandate of price stability, which can help to prevent inflation from getting out of control.

Literature Review

There is a large body of literature that has examined the relationship between central bank independence and hyperinflation. This literature has found that there is a strong negative correlation between the two variables. This means that countries with more independent central banks are less likely to experience hyperinflation.

One of the most well-known studies on this topic was conducted by Alberto Alesina and Lawrence Summers in 1993. This study found that countries with more independent central banks had significantly lower inflation rates than countries with less independent central banks.

Another study on this topic was conducted by Carmen Reinhart and Kenneth Rogoff in 2009. This study found that countries with more independent central banks were less likely to experience hyperinflation.

Extension

The literature on central bank independence and hyperinflation is still relatively new. There are a number of areas where the literature could be extended.

One area where the literature could be extended is in the study of the causal relationship between central bank independence and hyperinflation. For example, more research is needed to understand whether central bank independence causes lower inflation rates, or whether countries with lower inflation rates are more likely to have independent central banks.

Another area where the literature could be extended is in the study of the role of other factors, such as government budget deficits, in the relationship between central bank independence and hyperinflation. For example, more research is needed to understand how the effects of central bank independence on inflation rates vary depending on the level of government budget deficits.

Conclusion

The literature on central bank independence and hyperinflation suggests that central bank independence is an important factor in preventing hyperinflation. However, more research is needed to understand the causal relationship between central bank independence and hyperinflation, and the role of other factors in this relationship.

References

• Alesina, A., & Summers, L. H. (1993). Central bank independence and macroeconomic performance: Some comparative evidence. Journal of Money, Credit and Banking, 25(2), 151-162.
• Reinhart, C. M., & Rogoff, K. S. (2009). This time is different: Eight centuries of financial folly. Princeton, NJ: Princeton University Press.