A Political Agency Theory of Central Bank Independence

Gauti Eggertsson and Eric Le Borgne

Journal of Money, Credit and Banking, 2010, vol. 42, issue 4, 647-677

Abstract: We propose a simple theory to explain why, and under what circumstances, a politician delegates policy tasks to a technocrat in an independent institution and then analyze under what conditions delegation is optimal for society. Our theory builds on Holmström's (1982, 1999)“hidden effort” principal–agent model. The election pressures that politicians face, and the absence of such pressures for technocrats, give rise to a dynamic incentive structure that formalizes two rationales for delegation, one highlighted by Hamilton (1788) and the other by Blinder (1998). Delegation trades off the cost of having a possibly incompetent technocrat with a long‐term job contract against the benefit of having a technocrat who (i) invests more effort into the specialized policy task and (ii) is better insulated from the whims of public opinion. A natural application of our framework suggests a new theory of central bank independence.

Date: 2010
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https://doi.org/10.1111/j.1538-4616.2010.00302.x

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Journal Article: A Political Agency Theory of Central Bank Independence (2010)
Working Paper: A Political Agency Theory of Central Bank Independence (2003)
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Persistent link: https://EconPapers.repec.org/RePEc:wly:jmoncb:v:42:y:2010:i:4:p:647-677

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