Central Banks, Partisan Politics, and Macroeconomic Outcomes

Abstract

What are the implications of the trend toward granting central bank independence for partisan theories of the macroeconomy? The conventional view is that parties of the Left and Right strive to achieve distinctive macroeconomic outcomes when in government. However, when faced with an independent central bank, parties of the Left may prove unable to produce their preferred partisan outcomes, whereas Right parties may be privileged in their ability to pursue their goals. Moreover, granting the central bank independence can be expected to have differing effects depending on whether Left or Right parties prevail in government. These issues are explored with a pooled time-series model of inflation and unemployment in 16 Organization for Economic Co-operation and Development countries from 1961 through 1991. The results support the claim that the effects of partisan government and central bank organization are mutually contingent. The pattern of results anticipated by partisan theory only arises where central banks are under political control, whereas when central banks are independent, Left governments are disadvantaged and Right governments privileged in their ability to achieve their partisan goals. On the other hand, the effects of central bank independence also depend on the partisanship of government, casting doubt on the claim that an independent central bank always provides a “free lunch” of lower inflation with no attendant costs in terms of increased unemployment.

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