The importance of central bank independence has a lot to do with inflationary concerns. By independence, it typically means independence from political pressure. That entails strict separation between the central bank and the government. The central bank is not answerable to the government in general and the government does not represent the central bank. These two different entities are of two different minds. If they ever agree with each other, then it is necessarily a coincidence, or a conclusion achieved independently of each other. In its strong form, it is not achieved through any kind of discussion between the two parties.
It is feared that without independence and with exposure to political pressure, the central bank would embark on a populist policy, just as a democratic government that is susceptible to popular sentiment would. In times of crisis and without independence, the bank could run a loose monetary policy to appease the masses, eventually causing unacceptably high inflation simply by the operation of expectations.
The relationship between inflation and the independence of the central bank is widely known and is largely accepted within the field of economics: independence is correlated is an environment of low inflation. There are ample evidence for this.[1]
This is probably not subscribed by some Members of Parliament in Malaysia. Or they are unaware of it. Or that they define it very differently from what it is unusually understood. Whatever it is, three MPs are heading in the direction of subverting the idea.
According to The Malaysian Insider, MP for Kuala Selangor, Dzulkefly Ahmad of PAS wanted the Prime Minister to justify the recent rate hike by the Bank Negara. MP for Lembah Pantai Nurul Izzah said in the same report, despite stating she “was not asking the government to intervene”, she effectively blamed the government for the rate hike.[2] In the Parliament today, MP for Rembau Khairy Jamaluddin asked the Finance Minister to explain whether the Bank Negara would change the base interest rate and the reserve requirement between now till the end of the year.[3]
Truly, the concern for the rate especially is not for the Prime Minister, the Finance Minister or any person of their choosing to explain. These questions should be directed to the Bank Negara itself.
If these elected officials do try to explain it, then it will create a perception that the government and the Bank Negara are in cahoot in managing monetary policy. A mere hint of relationship as far as monetary policy is concerned is damaging to the idea of independence. The relationship suggests that the central bank in some ways is responsive to popular demand; popular demand is a code word for loose monetary policy.
What will make it worse is the possibility of the government flip-flopping, which is not rare at all in Malaysia. For a central bank that is not independent, any u-turn is especially damaging to the the credibility of the bank. Without credibility, the bank can say goodbye to its ability to manage inflation expectations.
Because of the possible implications, the Prime Minister and his Cabinet members should be careful in answering any of such questions.
[1] — The degree of central bank independence varies considerably across countries. Several authors including Bade and Parkin (1982), Alesina (1988, 1989), and Grilli, Masciandaro, and Tabellini (1991) found that more independent central banks are associated with lower levels of inflation. This note investigates whether one can find a correlation between central bank independence and the level and variability of real economic variables such as growth, unemployment, and real interest rates. Our conclusion is that while central bank independence promotes price stability, it has no measureable impact on real economic performance. [Alberto Alesina. Lawrence H. Summers. Central Bank Independence and Macroeconomics Performance: Some Comparative Evidence. Journal of Money, Credit, and Banking. May 1993]
[2] — PAS MP for Kuala Selangor Dr Dzulkefly Ahmad said that the prime minister, who also holds the finance portfolio in cabinet, should explain the move, which surprised economists who were expecting Bank Negara to maintain the benchmark lending rate to preserve the country’s growth momentum in the face of dimming global economic prospects.
…
PKR MP Nurul Izzah Anwar also stressed that they are not asking the government to intervene in Bank Negara’s policies but said that it was important for the finance minister to clarify what she claimed were ”very inconsistent justifications.”
Nurul said that while the government could be trying to cool down the investment climate with an eye on keeping a lid on inflation, she was unconvinced that an interest rate hike could also drive the growth of the local domestic economy at the same time. [Melissa Chi. Justify May interest rate hike, PR MPs tell Najib. Journal of Money, Credit, and Banking. June 21 2001]
[3] — Tuan Khairy Jamaluddin [ Rembau ] minta MENTERI KEWANGAN menyatakan apakah Bank Negara Malaysia berhasrat untuk menyemak atau meminda Kadar Dasar Semalaman (Overnight Policy Rate) dan Keperluan Rizab Berkanun (Statutory Reserve Requirement) bagi bank-bank tempatan sehingga akhir tahun ini. Sila jelaskan sebab-sebabnya sekiranya ya mahupun tidak. [Order Paper. Dewan Rakyat. June 21 2001]
6 replies on “[2385] A case of MPs subverting the independence of the Bank Negara?”
@moo_t,
RM888 billion in illicit fund flows? Really? Where did you get that figure from?
The GFI report states US$291 billion cumulative from 2000-2008. My estimate is that something like two-thirds of this is actually legitimate overseas investment, and not illicit at all. Most of the remaining third can be linked to transfer pricing within MNCs. The methodology used to arrive at the $291 billion figure is questionable in my view.
Malaysia is an outlier among developing countries, as we have an aggregate excess of savings but with a central bank that has largely eschewed forex intervention (i.e. accumulation of external assets has been through private means rather than through official reserves).
The latest IIP report from DOS indicates both overseas direct investment and portfolio investment officially reported by Malaysians have exploded in the past decade, by 10x and 15x approximately (or if you prefer, by 1000% and 1500% respectively).
If EPF buys property in developed economies – for the benefit of their members – is that illicit? If KLK and Sime invest in and expand their palm oil plantations in Indonesia (which they’ve done on a massive scale) – is that illicit?
moo_t, you need to clear your definition of monetary policy. The internet has plenty of credible documents from various universities and other research houses describing the roles of central bank and specifically, monetary policy. Right now, I’m in 100% agreement with Zaaba.
I’d like to see how you would answer the question posed by Zaaba because it will force you to straighten your thoughts on the matter, and allow me to see where exactly it’s gone wrong.
And I will say this. The money for the government doesn’t “come” from the Bank Negara in the same way your salary didn’t “come” from Bank Negara. Maybe, you’re confusing the function of the Treasury and the Bank. Now, the Treasury under the Finance Ministry controls government budget.
And no, government money doesn’t grow on trees, but it comes from taxes, royalties, tariff, licenses, etc. Definitely not from Bank Negara in any important sense.
Nothing to do with monetary policies? Oh dear, tell me what are the roles of central bank? Growth money on tree?
BNM already answer to its political master gazillion times. Otherwise, RM888 billion illicit money outflow wouldn’t happens. It is so clear that BNM are NOT independence at all in many aspect, and now you say some MP are powerful enough to “subverting BNM independence”?
Moo_t: Your questions are so out of line, I begin to question whether or not you understand the issue at hand. I am curious how you came to conclude that “BNM cannot answer how the country funding” (sic). Which, by the way, the central bank isn’t responsible for a government overshooting its budget.
That has nothing to do with monetary policy.
Malaysia “independent monetary policies”? Some sort of jokes?
Even BNM cannot answer how the country funding yet another Najib “extravaganza” prime minister departments budget overshot. If ringgit doesn’t grow on tree, then where is the extra supplies come from?