Central bank

Acentral bank,reserve bank,national bank,ormonetary authorityis an institution that manages thecurrencyandmonetary policyof a country or monetary union.In contrast to acommercial bank,a central bank possesses amonopolyon increasing themonetary base.Many central banks also have supervisory or regulatory powers to ensure the stability ofcommercial banksin their jurisdiction, to preventbank runs,and in some cases also to enforce policies on financialconsumer protectionand againstbank fraud,money laundering,orterrorism financing.

Central banks in mostdeveloped nationsare usually set up to be institutionally independent from political interference,even though governments typically have governance rights over them, legislative bodies exercise scrutiny, and central banks frequently do show responsiveness to politics.

Issues like central bank independence, central bank policies and rhetoric in central bank governors discourse or the premises ofmacroeconomic policies(monetaryandfiscal policy) of thestateare a focus of contention and criticism by some policymakers,researchersand specialized business, economics and finance media.

Definition

Walter Bagehot,influential 19th-century theorist of the economic role of central banks

The notion of central banks as a separate category from other banks has emerged gradually, and only fully coalesced in the 20th century. In the aftermath ofWorld War I,leading central bankers of theUnited Kingdomand theUnited Statesrespectively,Montagu NormanandBenjamin Strong,agreed on a definition of central banks that was bothpositiveandnormative.Since that time, central banks have been generally distinguishable from other financial institutions, except underCommunismin so-calledsingle-tier banking systemssuch as Hungary's between 1950 and 1987, where theHungarian National Bankoperated alongside three other major state-owned banks.For earlier periods, what institutions do or do not count as central banks is often not univocal.

Correlatively, different scholars have held different views about the timeline of emergence of the first central banks. A widely held view in the second half of the 20th century has been thatStockholms Banco(est. 1657), as the original issuer ofbanknotes,counted as the oldest central bank, and that consequently its successor theSveriges Riksbankwas the oldest central bank in continuous operation, with theBank of Englandas second-oldest and direct or indirect model for all subsequent central banks.That view has persisted in some early-21st-century publications.In more recent scholarship, however, the issuance of banknotes has often been viewed as just one of several techniques to providecentral bank money,defined as financial money (in contrast tocommodity money) of the highest quality. Under that definition, municipal banks of the late medieval and early modern periods, such as theTaula de canvi de Barcelona(est. 1401) orBank of Amsterdam(est. 1609), issued central bank money and count as early central banks.

Naming

There is no universal terminology for the name of a central bank. Early central banks were often the only or principal formal financial institution in their jurisdiction, and were consequently often named "bank of" the relevant city's or country's name, e.g. theBank of Amsterdam,Bank of Hamburg,Bank of England,orWiener Stadtbank.Naming practices subsequently evolved as more central banks were established. They include, with references to the date when the bank acquired its current name:

• "Bank of [Country]": e.g.Bank of the United States(1791),Bank of France(1800),Bank of Java(1828),Bank of Japan(1882),Bank of Italy(1893),Bank of China(1912),Bank of Mexico(1925),Bank of Canada(1934),Bank of Korea(1950). TheBank of Englandhas kept its original name of 1694, even though theAct of Union 1707andActs of Union 1800expanded its remit to the broaderUnited Kingdom.
• "National Bank": e.g.National Bank of Belgium(1850),Bulgarian National Bank(1879),Swiss National Bank(1907),National Bank of Poland(1945),National Bank of Ukraine(1991).
• "State Bank": e.g.State Bank of the Russian Empire(1860),State Bank of Pakistan(1948),State Bank of Vietnam(1951); also former central banks of Communist countries, e.g. theState Bank of the USSR(or Gosbank, 1922) or theState Bank of Czechoslovakia(1950). "People's Bank", also associated with Communism, is used by thePeople's Bank of China.
• "Reserve Bank": in the U.S.Federal Reserve(1913) and thereafter British colonies ordominions,e.g.South African Reserve Bank(1921),Reserve Bank of New Zealand(1934),Reserve Bank of India(1935),Reserve Bank of Australia(1960),Reserve Bank of Fiji(1984)
• "Central Bank": e.g.Central Bank of China(1924),Central Bank of the Republic of Turkey(1930),Central Bank of Argentina(1935),Central Bank of Ireland(1943),Central Bank of Sri Lanka(1950)Central Bank of Paraguay(1952),Central Bank of Brazil(1964),European Central Bank(1998).
• "Monetary Authority", e.g.Monetary Authority of Singapore(1971),Maldives Monetary Authority(1981),Hong Kong Monetary Authority(1993),Cayman Islands Monetary Authority(1997). TheSaudi Arabian Monetary Authority(est. 1952) was renamed theSaudi Central Bankin 2020 but still uses the acronym SAMA.

In some cases, the local-language name is used in English-language practice, e.g.Sveriges Riksbank(est. 1668, current name in use since 1866),De Nederlandsche Bank(est. 1814),Deutsche Bundesbank(est. 1957), orBangko Sentral ng Pilipinas(est. 1993).

Some commercial banks have names suggestive of central banks, even if they are not: examples are theState Bank of IndiaandCentral Bank of India,National Bank of Greece,Banco do Brasil,National Bank of Pakistan,Bank of China,Bank of Cyprus,orBank of Ireland,as well asDeutsche Bank.Some but not all of these institutions had assumed central banking roles in the past.

The leading executive of a central bank is usually known as theGovernor,President,orChair.

History

See also:History of bankingandHistory of central banking in the United States

The widespread adoption of central banking is a rather recent phenomenon. At the start of the 20th century, approximately two-thirds of sovereign states did not have a central bank. Waves of central bank adoption occurred in the interwar period and in the aftermath of World War II.

In the 20th century, central banks were often created with the intent to attract foreign capital, as bankers preferred to lend to countries with a central bank on the gold standard.

Background

Main article:History of money

The use ofmoneyas a unit of account predates history. Government control of money is documented in theancient Egyptianeconomy (2750–2150 BCE).The Egyptians measured the value of goods with a central unit calledshat.Like many other currencies, the shat was linked togold.The value of a shat in terms of goods was defined by government administrations. Other cultures inAsia Minorlater materialized their currencies in the form of gold and silvercoins.

The issuance ofpaper currencyis not to be equated with central banking, even though paper currency is a form of financial money (i.e. notcommodity money). The difference is that government-issued paper currency, as present e.g. inChinaduring theYuan dynasty,is typically not freelyconvertibleand thus of inferior quality, occasionally leading tohyperinflation.

From the 12th century, a network of professionalbanksemerged primarily inSouthern Europe(including Southern France, with theCahorsins).Banks could use book money to createdepositsfor their customers. Thus, they had the possibility to issue, lend and transfer money autonomously without direct control from political authorities.

Early municipal central banks

Interior of theLlotja de Barcelonawhere the city'sTaula de canviwas operated

TheTaula de canvi de Barcelona,established in 1401, is the first example of municipal, mostly public banks which pioneered central banking on a limited scale. It was soon emulated by theBank of Saint Georgein theRepublic of Genoa,first established in 1407, and significantly later by theBanco del Giroin theRepublic of Veniceand by a network of institutions inNaplesthat later consolidated intoBanco di Napoli.Notable municipal central banks were established in the early 17th century in leading northwestern European commercial centers, namely theBank of Amsterdamin 1609and theHamburger Bankin 1619.These institutions offered a public infrastructure for cashless international payments.They aimed to increase the efficiency of international trade and to safeguard monetary stability. These municipal public banks thus fulfilled comparable functions to modern central banks.

Early national central banks

TheBank of Englandin 1791

The Swedish central bank, known since 1866 asSveriges Riksbank,was founded inStockholmin 1664 from the remains of the failedStockholms Bancoand answered to theRiksdag of the Estates,Sweden's early modern parliament.One role of the Swedish central bank was lending money to the government.

The establishment of theBank of Englandwas devised byCharles Montagu, 1st Earl of Halifax,following a 1691 proposal byWilliam Paterson.Aroyal charterwas granted on 27 July 1694 through the passage of theTonnage Act.The bank was given exclusive possession of the government's balances, and was the only limited-liability corporation allowed to issuebanknotes.The early modern Bank of England, however, did not have all the functions of a today's central banks, e.g. to regulate the value of the national currency, to finance the government, to be the sole authorized distributor of banknotes, or to function as alender of last resortto banks suffering aliquidity crisis.

In the early 18th century, a major experiment in national central banking failed inFrancewithJohn Law'sBanque Royalein 1720–1721. Later in the century, France had other attempts with theCaisse d'Escomptefirst created in 1767, andKing Charles IIIestablished theBank of Spainin 1782. TheRussian Assignation Bank,established in 1769 byCatherine the Great,was an outlier from the general pattern of early national central banks in that it was directly owned by the Imperial Russian government, rather than private individual shareholders. In the nascentUnited States,Alexander Hamilton,as Secretary of the Treasury in the 1790s, set up theFirst Bank of the United Statesdespite heavy opposition fromJeffersonian Republicans.

National central banks since 1800

TheBank of FinlandinHelsinki

TheEccles BuildinginWashington, D.C.houses the main offices of theBoard of Governors of the Federal Reserve

Head office of thePeople's Bank of ChinainBeijing

Central banks were established in many European countries during the 19th century.Napoleon created theBanque de Francein 1800, in order to stabilize and develop the French economy and to improve the financing of his wars.The Bank of France remained the most important Continental European central bank throughout the 19th century.TheBank of Finlandwas founded in 1812, soon after Finland had been taken over from Sweden by Russia to become agrand duchy.Simultaneously, a quasi-central banking role was played by a small group of powerful family-run banking networks, typified by theHouse of Rothschild,with branches in major cities across Europe, as well asHottinguerin Switzerland andOppenheimin Germany.

The theory of central banking, even though the name was not yet widely used, evolved in the 19th century.Henry Thornton,an opponent of thereal bills doctrine,was a defender of the bullionist position and a significant figure in monetary theory. Thornton's process of monetary expansion anticipated the theories ofKnut Wicksellregarding the "cumulative process which restates the Quantity Theory in a theoretically coherent form". As a response to a currency crisis in 1797, Thornton wrote in 1802An Enquiry into the Nature and Effects of the Paper Credit of Great Britain,in which he argued that the increase in paper credit did not cause the crisis. The book also gives a detailed account of the British monetary system as well as a detailed examination of the ways in which the Bank of England should act to counteract fluctuations in the value of the pound.

In the United Kingdom until the mid-nineteenth century, commercial banks were able to issue their own banknotes, and notes issued by provincial banking companies were commonly in circulation.Many consider the origins of the central bank to lie with the passage of theBank Charter Act 1844.Under the 1844 Act,bullionismwas institutionalized in Britain,creating a ratio between the gold reserves held by theBank of Englandand the notes that the bank could issue.The Act also placed strict curbs on the issuance of notes by the country banks.The Bank of England took over a role of lender of last resort in the 1870s after criticism of its lacklustre response to the failure ofOverend, Gurney and Company.The journalistWalter Bagehotwrote on the subject inLombard Street: A Description of the Money Market,in which he advocated for the bank to officially become alender of last resortduring acredit crunch,sometimes referred to as "Bagehot's dictum".

The 19th and early 20th centuries central banks in most of Europe andJapandeveloped under the internationalgold standard.Free bankingorcurrency boardswere common at the time.Problems with collapses of banks during downturns, however, led to wider support for central banks in those nations which did not as yet possess them, for example in Australia.In the United States, the role of a central bank had been ended in the so-calledBank Warof the 1830s by PresidentAndrew Jackson.In 1913, the U.S. created theFederal Reserve Systemthrough the passing ofThe Federal Reserve Act.

FollowingWorld War I,theEconomic and Financial Organization(EFO) of theLeague of Nations,influenced by the ideas ofMontagu Normanand other leading policymakers and economists of the time, took an active role to promote the independence of central banks, a key component of the economic orthodoxy the EFO fostered at theBrussels Conference (1920).The EFO thus directed the creation of theOesterreichische NationalbankinAustria,Hungarian National Bank,Bank of Danzig,andBank of Greece,as well as comprehensive reforms of theBulgarian National BankandBank of Estonia.Similar ideas were emulated in other newly independent European countries, e.g. for theNational Bank of Czechoslovakia.

Brazilestablished a central bank in 1945, which was a precursor to theCentral Bank of Brazilcreated twenty years later. After gaining independence, numerous African and Asian countries also established central banks or monetary unions. TheReserve Bank of India,which had been established during British colonial rule as a private company, was nationalized in 1949 following India's independence. By the early 21st century, most of the world's countries had a national central bank set up as apublic sectorinstitution, albeit with widely varying degrees of independence.

Colonial, extraterritorial and federal central banks

Head office of the Bank of Java in Batavia, early 20th century

Before the near-generalized adoption of the model of national public-sector central banks, a number of economies relied on a central bank that was effectively or legally run from outside their territory. The first colonial central banks, such as theBank of Java(est. 1828 inBatavia),Banque de l'Algérie(est. 1851 inAlgiers), orHongkong and Shanghai Banking Corporation(est. 1865 inHong Kong), operated from the colony itself. Following the generalization of the transcontinental use of theelectrical telegraphusingsubmarine communications cable,however, new colonial banks were typically headquartered in the colonial metropolis; prominent examples included the Paris-basedBanque de l'Indochine(est. 1875),Banque de l'Afrique Occidentale(est. 1901), andBanque de Madagascar(est. 1925). The Banque de l'Algérie's head office was relocated from Algiers to Paris in 1900.

In some cases, independent countries which did not have a strong domestic base ofcapital accumulationand were critically reliant on foreign funding found advantage in granting a central banking role to banks that were effectively or even legally foreign. A seminal case was theImperial Ottoman Bankestablished in 1863 as a French-British joint venture, and a particularly egregious one was the Paris-basedNational Bank of Haiti(est. 1881) which captured significant financial resources from the economically struggling albeit independent nation ofHaiti.Other cases include the London-basedImperial Bank of Persia,established in 1885, and the Rome-basedNational Bank of Albania,established in 1925. TheState Bank of Moroccowas established in 1907 with international shareholding and headquarters functions distributed between Paris andTangier,a half-decade before the country lost its independence. In other cases, there have been organized currency unions such as theBelgium–Luxembourg Economic Unionestablished in 1921, under which Luxembourg had no central bank, but that was managed by a national central bank (in that case theNational Bank of Belgium) rather than a supranational one. The present-dayCommon Monetary Areaof Southern Africa has comparable features.

Yet another pattern was set in countries where federated or otherwise sub-sovereign entities had wide policy autonomy that was echoed to varying degrees in the organization of the central bank itself. These included, for example, theAustro-Hungarian Bankfrom 1878 to 1918, the U.S.Federal Reservein its first two decades, theBank deutscher Länderbetween 1948 and 1957, or theNational Bank of Yugoslaviabetween 1972 and 1993. Conversely, some countries that are politically organized as federations, such as today's Canada, Mexico, or Switzerland, rely on a unitary central bank.

Supranational central banks

TheEuropean Central Bank's main building inFrankfurt

In the second half of the 20th century, the dismantling of colonial systems left some groups of countries using the same currency even though they had achieved national independence. In contrast to the unraveling ofAustria-Hungaryand theOttoman EmpireafterWorld War I,some of these countries decided to keep using a common currency, thus forming amonetary union,and to entrust its management to a common central bank. Examples include theEastern Caribbean Currency Authority,theCentral Bank of West African States,and theBank of Central African States.

The concept of supranational central banking took a globally significant dimension with theEconomic and Monetary Unionof theEuropean Unionand the establishment of theEuropean Central Bank(ECB) in 1998. In 2014, the ECB took an additional role of banking supervision as part of the newly established policy ofEuropean banking union.

Central bank mandates

Price stability

The primary role of central banks is usually to maintain price stability, as defined as a specific level of inflation.Inflationis defined either as the devaluation of a currency or equivalently the rise of prices relative to a currency. Most central banks currently have an inflation target close to 2%.

Since inflation lowersreal wages,Keynesiansview inflation as the solution to involuntary unemployment. However, "unanticipated" inflation leads to lender losses as the real interest rate will be lower than expected. Thus, Keynesian monetary policy aims for a steady rate of inflation.

Central banks as monetary authorities in representative states are intertwined through globalized financial markets. As a regulator of one of the most widespread currencies in the global economy, the US Federal Reserve plays an outsized role in the international monetary market. Being the main supplier and rate adjusted for US dollars, the Federal Reserve implements a set of requirements to control inflation and unemployment in the US.

High employment

Frictional unemploymentis the time period between jobs when a worker is searching for, or transitioning from one job to another. Unemployment beyond frictional unemployment is classified as unintended unemployment. For example,structural unemploymentis a form of unintended unemployment resulting from a mismatch between demand in the labour market and the skills and locations of the workers seeking employment. Macroeconomic policy generally aims to reduce unintended unemployment.

Keynes labeled any jobs that would be created by a rise in wage-goods (i.e., a decrease inreal-wages) asinvoluntary unemployment:

Men are involuntarily unemployed if, in the event of a small rise in the price of wage-goods relatively to the money-wage, both the aggregate supply of labour willing to work for the current money-wage and the aggregate demand for it at that wage would be greater than the existing volume of employment.—John Maynard Keynes,The General Theory of Employment, Interest and Moneyp1

Economic growth

Economic growth can be enhanced by investment incapital,such as more or better machinery. A low interest rate implies that firms can borrow money to invest in their capital stock and pay less interest for it. Lowering the interest is therefore considered to encourage economic growth and is often used to alleviate times of low economic growth. On the other hand, raising the interest rate is often used in times of high economic growth as a contra-cyclical device to keep the economy from overheating and avoid market bubbles.

Further goals of monetary policy are stability of interest rates, of the financial market, and of the foreign exchange market. Goals frequently cannot be separated from each other and often conflict. Costs must therefore be carefully weighed before policy implementation.

Climate change

In the aftermath of theParis agreement on climate change,a debate is now underway on whether central banks should also pursue environmental goals as part of their activities. In 2017, eight central banks formed theNetwork for Greening the Financial System (NGFS)to evaluate the way in which central banks can use their regulatory and monetary policy tools to supportclimate change mitigation.Today more than 70 central banks are part of the NGFS.

In January 2020, theEuropean Central Bankhas announcedit will consider climate considerations when reviewing its monetary policy framework.

Proponents of "green monetary policy" are proposing that central banks include climate-related criteria in their collateral eligibility frameworks, when conducting asset purchases and also in their refinancing operations.But critics such asJens Weidmannare arguing it is not central banks' role to conduct climate policy.China is among the most advanced central banks when it comes to green monetary policy.It has given green bonds preferential status to lower their yieldand uses window policy to direct green lending.

The implications of potentialstranded assetsin the economy highlights one example of the embedded transition risk to climate change with potentialcascade effectsthroughout thefinancial system.In response, four broad types of interventions including methodology development, investor encouragement,financial regulationand policy toolkits have been adopted by or suggested for central banks.

Achieving the2°C thresholdrevolve in part around the development of climate-aligned financial regulations. A significant challenge lies in the lack of awareness among corporations and investors, driven by poor information flow and insufficient disclosure.To address this issue, regulators and central banks are promoting transparency,integrated reporting,and exposure specifications, with the goal of promoting long-term, low-carbon emission goals, rather than short-term financial objectives.These regulations aim to assess risk comprehensively, identifyingcarbon-intensiveassets and increasing their capital requirements. This should result in high-carbon assets becoming less attractive while favoring low-carbon assets, which have historically been perceived as high-risk, and lowvolatilityinvestment vehicles.

Quantitative easingis a potential measure that could be applied by Central banks to achieve a low-carbon transition.Although there is a historical bias toward high-carbon companies, included in Central banks portfolios due to their high credit ratings, innovative approaches to quantitative easing could invert this trend to favor low-carbon assets.

Considering the potential impact of central banks on climate change, it is important to consider the mandates of central banks. The mandate of a central bank can be narrow, meaning only a few objectives are given, limiting the ability of a central bank to include climate change in its policies.However, central bank mandates may not necessarily have to be modified to accommodate climate change-related activities.For example, theEuropean Central Bankhas incorporated carbon-emissions into its asset purchase criteria, despite its relatively narrow mandate that focuses on price stability.

Central bank operations

See also:Currency board

The functions of a central bank may include:

• Monetary policy:by setting the officialinterest rateand controlling themoney supply;
• Financial stability:acting as a government'sbankerand as the bankers' bank ( "lender of last resort");
• Reserve management:managing a country'sforeign-exchangeandgold reservesandgovernment bonds;
• Banking supervision:regulating and supervising thebanking industry,and currency exchange;
• Payments system:managing or supervising means of payments and inter-banking clearing systems;
• Coins and notes issuance;
• Other functionsof central banks may include economic research, statistical collection, supervision of deposit guarantee schemes, advice to government in financial policy.

Monetary policy

Main article:Monetary policy

Central banks implement a country's chosenmonetary policy.

Currency issuance

At the most basic level, monetary policy involves establishing what form of currency the country may have, whether afiat currency,gold-backed currency(disallowed for countries in theInternational Monetary Fund),currency boardor acurrency union.When a country has its own national currency, this involves the issue of some form of standardized currency, which is essentially a form ofpromissory note:"money" under certain circumstances. Historically, this was often a promise to exchange the money for precious metals in some fixed amount. Now, when many currencies arefiat money,the "promise to pay" consists of the promise to accept that currency to pay for taxes.

A central bank may use another country's currency either directly in a currency union, or indirectly on a currency board. In the latter case, exemplified by theBulgarian National Bank,Hong KongandLatvia(until 2014), the local currency is backed at a fixed rate by the central bank's holdings of a foreign currency. Similar to commercial banks, central banks hold assets (government bonds, foreign exchange, gold, and other financial assets) and incur liabilities (currency outstanding). Central banks create money by issuingbanknotesand loaning them to the government in exchange for interest-bearing assets such as government bonds. When central banks decide to increase the money supply by an amount which is greater than the amount their national governments decide to borrow, the central banks may purchase private bonds or assets denominated in foreign currencies.

TheEuropean Central Bankremits its interest income to the central banks of the member countries of the European Union. The USFederal Reserveremits most of its profits to the U.S. Treasury. This income, derived from the power to issue currency, is referred to asseigniorage,and usually belongs to the national government. The state-sanctioned power to create currency is called theRight of Issuance.Throughout history, there have been disagreements over this power, since whoever controls the creation of currency controls the seigniorage income. The expression "monetary policy" may also refer more narrowly to the interest-rate targets and other active measures undertaken by the monetary authority.

Monetary policy instruments

The primary monetary policy tool available to central banks is the administered interest rate paid on qualifying deposits held with them. Adjusting this rate up or down influences the rate commercial banks pay on their own customer deposits, which in turn influences the rate that commercial banks charge customers for loans.

A central bank affects the monetary base throughopen market operations,if its country has a well developed market for its government bonds. This entails managing the quantity of money in circulation through the buying and selling of various financial instruments, such as treasury bills, repurchase agreements or "repos", company bonds, or foreign currencies, in exchange for money on deposit at the central bank. Those deposits are convertible to currency, so all of these purchases or sales result in more or less base currency entering or leaving market circulation.

If the central bank wishes to decrease interest rates, it reduces its administered rates (Bank Rate,thereverse repurchase agreement rateand thediscount rate). This results in commercial banks bidding down the rate they pay customers on their deposits and, subsequently, loan rates are reduced commensurately. Cheaper credit can increaseconsumer spendingor business investment, stimulating output growth. On the other hand, cheaper interest income can reduce spending, suppressing output. Additionally, when business loans are more affordable, companies can expand to keep up with consumer demand. They ultimately hire more workers, whose incomes increase, which in its turn also increases the demand. This method is usually enough to stimulate demand and drive economic growth to a higher rate. In other instances, monetary policy might instead entail the targeting of a specific exchange rate relative to some foreign currency or else relative to gold. For example, in the case of theUnited States,theFederal Reservetargets thefederal funds rate,the rate at which member banks lend to one another overnight; however, themonetary policy of China(since 2014) is to target the exchange rate between the Chinese renminbi and a basket of foreign currencies.

A third alternative is to changereserve requirements.The reserve requirement refers to the proportion of total liabilities that banks must keep on hand overnight, either in its vaults or at the central bank. Banks only maintain a small portion of their assets as cash available for immediate withdrawal; the rest is invested in illiquid assets like mortgages and loans. Lowering the reserve requirement frees up funds for banks to buy other profitable assets. However, even though this tool immediately increases liquidity, central banks rarely change the reserve requirement because doing so frequently adds uncertainty to banks' planning. Most modern central banks now have zero formal reserve requirement.

Unconventional monetary policy

Other forms of monetary policy, particularly used when interest rates are at or near 0% and there are concerns about deflation or deflation is occurring, are referred to asunconventional monetary policy.These includecredit easing,quantitative easing,forward guidance,andsignalling.In credit easing, a central bank purchases private sector assets to improve liquidity and improve access to credit. Signaling can be used to lower market expectations for lower interest rates in the future. For example, during the credit crisis of 2008, theUS Federal Reserveindicated rates would be low for an "extended period", and theBank of Canadamade a "conditional commitment" to keep rates at the lower bound of 25 basis points (0.25%) until the end of the second quarter of 2010.

Some have envisaged the use of what Milton Friedman once called "helicopter money"whereby the central bank would make direct transfers to citizensin order to lift inflation up to the central bank's intended target. Such policy option could be particularly effective at the zero lower bound.

Central Bank Digital Currencies

Since 2017, prospect of implementingCentral Bank Digital Currency(CBDC) has been in discussion.As of the end of 2018, at least 15 central banks were considering to implementing CBDC.Since 2014, the People's Bank of China has been working on a project for digital currency to make its own digital currency and electronic payment systems.

Banking supervision and other activities

In some countries a central bank, through its subsidiaries, controls and monitors the banking sector. In other countries banking supervision is carried out by a government department such as theUK Treasury,or by an independent government agency, for example, UK'sFinancial Conduct Authority.It examines the banks'balance sheetsand behaviour and policies toward consumers.Apart from refinancing, it also provides banks with services such as transfer of funds, bank notes and coins or foreign currency. Thus it is often described as the "bank of banks".

Many countries will monitor and control the banking sector through several different agencies and for different purposes. TheBank regulation in the United Statesfor example is highly fragmented with 3 federal agencies, theFederal Deposit Insurance Corporation,theFederal Reserve Board,orOffice of the Comptroller of the Currencyand numerous others on the state and the private level. There is usually significant cooperation between the agencies. For example,money center banks,deposit-taking institutions,and other types of financial institutions may be subject to different (and occasionally overlapping) regulation. Some types of banking regulation may be delegated to other levels of government, such as state or provincial governments.

Any cartel of banks is particularly closely watched and controlled. Most countries control bank mergers and are wary of concentration in this industry due to the danger ofgroupthinkand runaway lending bubbles based on asingle point of failure,thecredit cultureof the few large banks.

Public communication

Central banks have increasingly engaged in public communication for the purposes of ensuring accountability, build trust, and manage inflation expectations.

Central bank governance and independence

Central bank independence versus inflation. This often citedresearch published by Alesina and Summers (1993)is used to show why it is important for a nation's central bank (i.e.-monetary authority) to have a high level of independence. This chart shows a clear trend towards a lower inflation rate as the independence of the central bank increases. The generally agreed upon reason independence leads to lower inflation is that politicians have a tendency to create too much money if given the opportunity to do it.The Federal Reserve System in the United States is generally regarded as one of the more independent central banks

See also:Central bank independence

Numerous governments have opted to make central banks independent. The economic logic behind central bank independence is that when governments delegate monetary policy to an independent central bank (with an anti-inflationary purpose) and away from elected politicians, monetary policy will not reflect the interests of the politicians. When governments control monetary policy, politicians may be tempted to boost economic activity in advance of an election to the detriment of the long-term health of the economy and the country. As a consequence, financial markets may not consider future commitments to low inflation to be credible when monetary policy is in the hands of elected officials, which increases the risk of capital flight. An alternative to central bank independence is to havefixed exchange rateregimes.

Governments generally have some degree of influence over even "independent" central banks; the aim of independence is primarily to prevent short-term interference. In 1951, theDeutsche Bundesbankbecame the first central bank to be given full independence, leading this form of central bank to be referred to as the "Bundesbank model", as opposed, for instance, to the New Zealand model, which has a goal (i.e. inflation target) set by the government.

Central bank independence is usually guaranteed by legislation and the institutional framework governing the bank's relationship with elected officials, particularly the minister of finance. Central bank legislation will enshrine specific procedures for selecting and appointing the head of the central bank. Often the minister of finance will appoint the governor in consultation with the central bank's board and its incumbent governor. In addition, the legislation will specify banks governor's term of appointment. The most independent central banks enjoy a fixed non-renewable term for the governor in order to eliminate pressure on the governor to please the government in the hope of being re-appointed for a second term.Generally, independent central banks enjoy both goal and instrument independence.

Despite their independence, central banks are usually accountable at some level to government officials, either to the finance ministry or to parliament. For example, the Board of Governors of the U.S. Federal Reserve are nominated by theU.S. presidentand confirmed by theSenate,publishes verbatim transcripts, and balance sheets are audited by theGovernment Accountability Office.

In the 1990s there was a trend towards increasing the independence of central banks as a way of improving long-term economic performance.While a large volume of economic research has been done to define the relationship between central bank independence and economic performance, the results are ambiguous.

The literature on central bank independence has defined a cumulative and complementary number of aspects:

• Institutional independence:The independence of the central bank is enshrined in law and shields central banks from political interference. In general terms, institutional independence means that politicians should refrain from seeking to influence monetary policy decisions, while symmetrically central banks should also avoid influencing government politics.
• Goal independence:The central bank has the right to set its own policy goals, whether inflation targeting, control of the money supply, or maintaining afixed exchange rate.While this type of independence is more common, many central banks prefer to announce their policy goals in partnership with the appropriate government departments. This increases the transparency of the policy-setting process and thereby increases the credibility of the goals chosen by providing assurance that they will not be changed without notice. In addition, the setting of common goals by the central bank and the government helps to avoid situations where monetary and fiscal policy are in conflict; a policy combination that is clearly sub-optimal.
• Functional & operational independence:The central bank has the independence to determine the best way of achieving its policy goals, including the types of instruments used and the timing of their use. To achieve its mandate, the central bank has the authority to run its own operations (appointing staff, setting budgets, and so on.) and to organize its internal structures without excessive involvement of the government. This is the most common form of central bank independence. The granting of independence to the Bank of England in 1997 was, in fact, the granting of operational independence; the inflation target continued to be announced in the Chancellor's annual budget speech to Parliament.
• Personal independence:The other forms of independence are not possible unless central bank heads have a highsecurity of tenure.In practice, this means that governors should hold long mandates (at least longer than the electoral cycle) and a certain degree of legal immunity.One of the most common statistical indicators used in the literatureas a proxy for central bank independence is the "turn-over-rate" of central bank governors. If a government is in the habit of appointing and replacing the governor frequently, it clearly has the capacity to micro-manage the central bank through its choice of governors.
• Financial independence:central banks have full autonomy on their budget, and some are even prohibited from financing governments. This is meant to remove incentives from politicians to influence central banks.
• Legal independence:some central banks have their own legal personality, which allows them to ratify international agreements without the government's approval (like theECB), and to go to court.

There is very strong consensus among economists that an independent central bank can run a more credible monetary policy, making market expectations more responsive to signals from the central bank.Both the Bank of England (1997) and the European Central Bank have been made independent and follow a set of publishedinflation targetsso that markets know what to expect.Populismcan reduce de facto central bank independence.

International organizations such as theWorld Bank,theBank for International Settlements(BIS) and theInternational Monetary Fund(IMF) strongly support central bank independence. This results, in part, from a belief in the intrinsic merits of increased independence. The support for independence from theinternational organizationsalso derives partly from the connection between increased independence for the central bank and increased transparency in the policy-making process. The IMF'sFinancial Services Action Plan(FSAP) review self-assessment, for example, includes a number of questions about central bank independence in the transparency section. An independent central bank will score higher in the review than one that is not independent.

Central bank independence indices

Central bank independence indices allow a quantitative analysis of central bank independence for individual countries over time. One central bank independence index is the Garriga CBI,where a higher index indicates higher central bank independence, shown below for individual countries.

Country	Central bank independence index by Garriga for 2012
Afghanistan	0.8076
Albania	0.7105
Algeria	0.4525
Angola	0.5855
Antigua & Barbuda	0.6424
Argentina	0.7003
Armenia	0.8465
Australia	0.2511
Austria	0.8565
Azerbaijan	0.5715
Bahamas	0.4038
Bahrain	0.4334
Bangladesh	0.3276
Barbados	0.4133
Belarus	0.7487
Belgium	0.8565
Belize	0.5930
Benin	0.8015
Bhutan	0.5426
Bolivia	0.7970
Bosnia-Herzegovina	0.9790
Botswana	0.5159
Brazil	0.2549
Brunei Darussalam	0.6815
Bulgaria	0.8565
Burkina Faso	0.8015
Burundi	0.7232
Cambodia	0.6373
Cameroon	0.5015
Canada	0.4724
Cape Verde	0.5180
Central African Republic	0.5015
Chad	0.5015
Chile	0.8190
China	0.5535
Colombia	0.6933
Comoros	0.6824
Democratic Republic of the Congo	0.5628
Republic of the Congo	0.5015
Costa Rica	0.7343
Croatia	0.8190
Cuba	0.2252
Cyprus	0.8565
Czech Republic	0.8315
Denmark	0.5026
Djibouti	0.6984
Dominica	0.6424
Dominican Republic	0.6483
Ecuador	0.4709
Egypt	0.4875
El Salvador	0.7576
Equatorial Guinea	0.5015
Eritrea	0.3981
Estonia	0.8565
Ethiopia	0.2913
Fiji	0.4349
Finland	0.8565
France	0.8565
Gabon	0.5015
Gambia	0.5119
Georgia	0.7986
Germany	0.8565
Ghana	0.5607
Greece	0.8565
Grenada	0.6424
Guatemala	0.7825
Guinea	0.8665
Guinea-Bissau	0.8015
Guyana	0.6383
Haiti	0.3755
Honduras	0.6710
Hungary	0.9115
Iceland	0.8276
India	0.2950
Indonesia	0.8461
Iran	0.4363
Iraq	0.3015
Ireland	0.8565
Israel	0.6703
Italy	0.8565
Ivory Coast	0.8015
Jamaica	0.3830
Japan	0.4360
Jordan	0.4826
Kazakhstan	0.5574
Kenya	0.5074
Korea, Republic of	0.5074
Kuwait	0.4104
Kyrgyzstan	0.5736
Laos	0.2411
Latvia	0.8865
Lebanon	0.4000
Lesotho	0.6810
Liberia	0.4725
Libya	0.3225
Lithuania	0.8440
Luxembourg	0.8565
Republic of Macedonia	0.6789
Madagascar	0.6420
Malawi	0.2865
Malaysia	0.5765
Maldives	0.4282
Mali	0.8015
Malta	0.8565
Mauritania	0.6360
Mauritius	0.5609
Mexico	0.6383
Moldova	0.6943
Mongolia	0.5553
Montenegro	0.8190
Morocco	0.6219
Mozambique	0.3663
Myanmar	0.3953
Namibia	0.5100
Nepal	0.6443
Netherlands	0.8565
New Zealand	0.7773
Nicaragua	0.6910
Niger	0.8015
Nigeria	0.6263
Norway	0.4526
Oman	0.4970
Pakistan	0.3397
Panama	0.2176
Papua New Guinea	0.5838
Paraguay	0.6171
Peru	0.7978
Philippines	0.6340
Poland	0.8753
Portugal	0.8565
Qatar	0.5861
Romania	0.8462
Russian Federation	0.6999
Rwanda	0.5988
Saint Lucia	0.6424
Samoa	0.3311
San Marino	0.1854
Sao Tome and Principe	0.4820
Saudi Arabia	0.5522
Senegal	0.8015
Serbia	0.8111
Serbia and Montenegro	0.6760
Seychelles	0.6785
Sierra Leone	0.7248
Singapore	0.4304
Slovakia	0.8565
Slovenia	0.8565
Solomon Islands	0.7448
Somalia	0.6423
South Africa	0.3652
Spain	0.8565
Sri Lanka	0.6055
St. Kitts and Nevis	0.6424
St. Vincent and the Grenadines	0.6424
Sudan	0.3326
Suriname	0.5139
Swaziland	0.3734
Sweden	0.3545
Switzerland	0.7399
Syria	0.3715
Taiwan	0.1940
Tajikistan	0.6796
Tanzania	0.5873
Thailand	0.3815
Timor-Leste	0.7765
Togo	0.8015
Tonga	0.3080
Trinidad and Tobago	0.4439
Tunisia	0.5916
Turkey	0.8990
Turkmenistan	0.2067
Tuvalu	0.0063
Uganda	0.5719
Ukraine	0.8993
United Arab Emirates	0.4855
United Kingdom	0.7012
United States of America	0.4804
Uruguay	0.6260
Uzbekistan	0.5958
Vanuatu	0.4979
Venezuela	0.4515
Vietnam	0.1316
Yemen	0.5205
Zambia	0.5240
Zimbabwe	0.4939

Statistics

Total assets of central banks worldwide (in trillion U.S. dollars)

Collectively, central banks purchase less than 500 tonnes ofgoldeach year, on average (out of an annual global production of 2,500–3,000 tonnes).In 2018, central banks collectively hold over 33,000 metric tons of the gold, about a fifth of all the gold ever mined, according to Bloomberg News.

In 2016, 75% of the world's central-bank assets were controlled by four centers inChina,the United States, Japan and theeurozone.The central banks ofBrazil,Switzerland,Saudi Arabia,theU.K.,IndiaandRussia,each account for an average of 2.5 percent. The remaining 107 central banks hold less than 13 percent. According to data compiled byBloomberg News,the top 10 largest central banks owned $21.4 trillion in assets, a 10 percent increase from 2015.

Top 5 largest central banks by total assets

Rank	Central Bank	Total assets
1	Federal Reserve System	$8,757,460,000,000
2	Bank of Japan	$5,878,875,571,224
3	People's Bank of China	$5,144,760,000,000
4	Deutsche Bundesbank	$3,103,230,000,000
5	Bank of France	$2,138,080,000,000

See also

• Fractional-reserve banking
• Free banking
• Full-reserve banking
• Bank for International Settlements
• History of central banking in the United States
• List of central banks

Further reading

• Acocella, N.,Di Bartolomeo, G., and Hughes Hallett, A. [2012], "Central banks and economic policy after the crisis: what have we learned?", ch. 5 in: Baker, H. K. and Riddick, L. A. (eds.),Survey of International Finance,Oxford University Press.

External links

• List of central bank websites at the Bank for International Settlements
• International Journal of Central Banking
• "The Federal Reserve System: Purposes and Functions"– A publication of the U.S.Federal Reserve,describing its role in the macroeconomy
• A Hundred Ways to Skin a Cat: Comparing Monetary Policy Operating Procedures in the United States, Japan and the Euro Area(PDF).Archived(PDF)from the original on 9 October 2022.(176 KB)– C E V Borio, Bank for International Settlements, Basel