Central Bank Autonomy

VI Legal Infrastructure: Central Bank Autonomy

key requirement for the development of the fi- some others are currently discussing amendments to Anancial sector is an institutional environment them. that is conducive to the effective and efficient for- To a certain extent, while the new laws have in- mulation and implementation of monetary policy. creased the autonomy and accountability of central The regulatory and operating frameworks within banks, none of the selected central bank laws meets which financial systems operate must be simple, un- all the indicators that are typically used to measure ambiguous, transparent, and sound. With regard to autonomy. In this study, the following indicators have the regulatory framework, the legislations governing been used: first, the primary objective of the central the conduct of banking business must follow sound bank should be price stability; second, the central principles. Given that the central bank acts as the nu- bank should be given sufficient authority to imple- cleus of the financial system, the central bank law, ment monetary policy without direct government in- particularly, needs to be clear and precise and must terference; third, the governor and other members of support the development of the financial sector. the bank's governing bodies should be isolated from Specifically, the law should be clear about the pri- short-term political influence; fourth, the economic mary objective of monetary policy and how to autonomy of the central bank should be guaranteed achieve it. On the basis of a growing body of empir- by provisions that limit direct credit to the govern- ical evidence, it is now generally accepted that the ment, prohibit the central bank financing of quasi-fis- primary objective of monetary policy should be cal activities, and ensure that the central bank is fi- price stability and that authority over the pursuit of nancially sound and solvent; and, finally, central bank this objective should be conferred on an autonomous accountability should be ensured through provisions central bank.13 If the authority over monetary policy, requiring prudent reporting on both monetary policy and in particular its implementation, is delegated to and the financial condition of the bank. an autonomous central bank having sufficient au- On the basis of these indicators, a single, un- thority to pursue price stability, uncertainties about weighted legal index of central bank autonomy was price signals are minimized as the signals become developed for this study (see Appendix I, Table Al). more reliable. Not only will this lower inflation and There are, of course, different ways of measuring au- keep it from rising again, but it will also help in allo- tonomy, and a legal index of central bank autonomy cating resources efficiently, leading to high and sus- may have some element of arbitrariness, partly be- tainable output of goods and services. The question cause very different factors are combined into one then is, to what extent have sub-Saharan African indicator and partly also because practices, as they countries been able to meet the requirements of an develop, may not be fully reflected in the central institutional framework that is conducive to finan- bank law. cial sector development? When the index was correlated with inflation rates During the 1990s, these countries took steps to in the selected countries, increased central bank modernize their central banking laws, which had autonomy was found to be associated with lower in- initially been created in the 1960s and 1970s when flation. However, central banks without much auton- central banks were being established. To date, ap- omy were still able to achieve relatively low infla- proximately one-half of the selected countries have tion, but only when the government's monetary amended or completely revised their laws, while policy was sound and credible. The ability to achieve relatively low inflation may have been facil- itated by their having a fixed exchange rate policy or

13 an IMF program (see Appendix I, Table A9). Never- A central bank has autonomy if it has sufficient authority theless, increased central bank autonomy, in general, (both de jure and de facto) over the level of reserve money to meet its primary objective and if it can use that authority without further increased credibility in monetary policy and the government's influencing it in a nontransparent manner. thus reduced inflation. As Table 5 shows, most sub-

28 ©International Monetary Fund. Not for Redistribution Objective

tral bank laws include price stability or maintaining Table 5. Degrees of Central Bank the internal and external value of the currency as Autonomy for Selected Sub-Saharan part of other objectives. It is thus difficult to know African Countries, 1997 which objective is accorded priority at any given time or to hold the central bank accountable for its monetary policy actions. However, some of the Group 1 Group II Group III amendments currently being discussed, for instance, Angola* Botswana Kenya in Mauritius and Zimbabwe, give price stability ex- BCEAO Lesotho* Madagascar plicit priority. BEAC Namibia* South Africa As is true of central banks in general, all the se- Ethiopia Tanzania lected sub-Saharan African central banks also seek Ghana Malawi to ensure a safe and efficient financial system, in- Mauritius* cluding the payments systems. Safeguarding the in- Mozambique tegrity of the financial system is critical for the Rwanda transmission of monetary policy signals. Hence, the Swaziland obligations to ensure price stability and a safe finan- Uganda Zambia* cial system will often complement each other, but Zimbabwe* they could also conflict, particularly in the short run. Experience indicates that expansionary monetary Note: * indicates that the central bank law is currently under policy intended to mitigate problems in the financial review. See Table AI for index of autonomy. I: Index is less than sector often ends up aggravating them. For example, 12; II: Index is between 12 and 14; III: Index is 15 or greater. if borrowers, banks, and the general public believe that the government and central bank will always bail out problem banks, there is no incentive to deal promptly with underlying structural problems. Therefore, efforts to ensure a safe and efficient fi- Saharan African countries still confer only limited nancial system should generally be subordinated to autonomy on their central banks in the conduct of price stability, because price stability itself con- monetary policy. tributes to a sound financial sector. There are both benefits and costs in letting the central bank conduct banking supervision, but in Objective countries with less developed financial markets, the benefits may outweigh the costs.15 In particular, An autonomous central bank should have a single given that the central bank is the lender of last resort, objective, or, at least, one clearly defined primary close coordination is always necessary, and skilled objective, to avoid becoming subject to conflicting banking supervisors who are immune to political interests that cause time-inconsistency and credibil- pressure are crucial for efficient supervision. In the ity problems. A clearly defined objective provides selected countries, with the exception of those in the the central bank with some implied powers and also CFA franc zone and Madagascar, the central banks yields a more precise basis for holding the central are in charge of banking supervision. Indeed, in An- bank accountable for its monetary policy actions. gola, Ethiopia, Lesotho, Namibia, Malawi, Tanzania, Furthermore, price stability is, in the final analysis, and Zambia, the central bank also supervises other conducive to sustainable real growth. categories of financial institutions, such as building All the selected sub-Saharan African countries societies and insurance companies. have as an objective either price stability, the value Although overall authority for supervising the of the currency, or monetary stability. However, banking sector may rest with the central bank, in only a few of the central bank laws (those of some countries responsibility for licensing financial Angola, Kenya, Madagascar, South Africa, and institutions either is shared between the central bank Tanzania) give price stability explicit priority. Un- and the ministry of finance or takes place in consul- like many countries, South Africa includes price tation with, or with the approval of, the minister of stability as part of its constitution.14 The other cen- finance or even the prime minister. This setup is likely to make accountability difficult and increases

14The objective is stipulated in the South African Constitution of 1996 (Article 224(1)): "The primary object of the South African Reserve Bank is to protect the value of the currency in 15See for example, Tuya and Zamalloa (1994) and Goodhart the interest of balanced and sustainable economic growth in the and Schoenmaker (1995) for an overview of the pros and cons of Republic" (Government of the Republic of South Africa, 1997). placing banking supervision in the central bank.

29 ©International Monetary Fund. Not for Redistribution VI LEGAL INFRASTRUCTURE: CENTRAL BANK AUTONOMY

the risk of relying on purely subjective criteria for Governing Bodies the granting of licenses and may even encourage rent-seeking behavior in the process. Thus, the bank- The Governor ing supervisor's authority should be made clear and The governor, as chief officer, is usually responsi- objective and must include sole authority for grant- ble for implementing monetary policy; it is therefore ing and revoking licenses. critical that he or she be separated from day-to-day political influence. Thus, the governor should be appointed for a term longer than the political election Political Autonomy cycle, and it must be stipulated that he or she should be dismissed only for breach of qualifications, mis- Political autonomy, that is, independence from conduct, or unsatisfactory performance.17 In almost government, makes the central bank a more credible half of the selected countries, the governor's term is agency.16 In this regard, three features are important longer than four years, which is the usual election in determining the degree of autonomy delegated to cycle. In some extreme cases, such as Ethiopia, the the central bank: the structure of the governing bod- governor does not have a fixed-term appointment. ies of the central bank, the manner in which coordi- However, while most of the laws define breach of nation is ensured, and how conflicts between the qualifications and misconduct as grounds for dis- government and the central bank are resolved. missal, only a few explicitly state that these are the only reasons for dismissal. A few other central bank Coordination and Conflict Resolution laws, however, allow dismissal only for a "just cause," as in Mozambique, but this leaves room for Coordination between the central bank and the interpretation, particularly if no clearly defined pro- government is essential for the proper functioning of visions for conflict resolution are in place. In some the economy. However, it is important, when con- countries, including Botswana, Kenya, and Lesotho, flicts arise between the two, that they be resolved in one possibility is to allow dismissals to be tested in a transparent way. If a central bank can be overruled court or by a special tribunal to avoid arbitrary dis- by the government or if the central bank's authority missals resulting from conflicts with the govern- is at times limited by factors outside its control, there ment. Dismissals could even require approval by the should be legal provisions that make it absolutely legislature. clear to the public that the central bank can no longer Credibility may be further improved if the gover- be considered accountable for the results of the mon- nor is nominated by one body—say, the board—and etary policy pursued. Such an institutional frame- appointed by another body—say, the head of state. work guarantees that the public will be notified in In Lesotho, Namibia, South Africa, and Swaziland, time about policy intentions and that the government either the minister of finance, the prime minister, or will justify its policy choice publicly. Some of the the cabinet nominates or advises, and the head of selected countries in sub-Saharan Africa—namely, state appoints, the governor. In Zambia, the presi- Botswana, Kenya, Namibia, South Africa, Tanzania, dent appoints the governor subject to the ratification and Uganda—have clearly defined provisions in of the national assembly. In several other countries, place to ensure conflict resolution. In these coun- however, the same body, often the head of state, tries, the government can instruct the central bank to nominates or appoints the governor. pursue a specific monetary policy, but only if it is geared toward price stability. In any case, both the government and the central bank must prepare state- The Board of Directors ments, which are presented to the legislature and Monetary policy decisions should be made by a published. In some other countries, there is no for- body that reflects a broad range of views. The num- mal legal obligation to ensure that these divergences ber of board members ranges from 6 in Namibia to are published. In a few of the countries, no conflict 14 in South Africa. In Angola and Mozambique, resolution provisions at all are in place. In Malawi, there is, in addition to the board, a smaller advisory for instance, the president can replace the members committee or a consultative body, which may in- of the governing bodies of the central bank at any clude members of the board and some experts. time, implying that in practice the government can Cooperation with the government on monetary instruct the central bank. policy can be ensured without direct government representation on the board. It is achieved through

16Autonomy should, however, be balanced by accountability regarding both its monetary policy performance and its adminis- 17Dismissal for lack of performance presumes that clearly de- tration of public resources. fined performance criteria are established.

30 ©International Monetary Fund. Not for Redistribution Economic Autonomy provisions that stipulate that the central bank and the sorb in the budget.18 To avoid these losses, some government shall consult with each other but that the central banks may run their operations with the pri- central bank shall not accept instructions unless pub- mary, if not sole, objective of making a profit. This licly announced. Thus, it is not necessary to have practice may in many cases conflict with the objec- government representatives or public officers on the tive of price stability. Also, a central bank law board. The only countries that follow this practice, should ensure that monetary policy can be separated however, are Angola, Madagascar, Mauritius, South from fiscal and exchange rate policies in a mutually Africa, and Zimbabwe. In some countries, a repre- consistent manner. Central banks should thus have sentative of the minister of finance participates in the right instruments in sufficient quantities to man- meetings and makes motions, but has no right to age the overall level of liquidity in the banking vote, as in Kenya and Zambia. In several other coun- system. tries, however, the representative of the minister of finance has the right to vote. Although most of the remaining countries limit the number of public offi- Credit to the Government cers that can be directors, there is no such explicit re- Restrictions on monetary financing of the budget striction as in Uganda. To avoid vested interests, deficit make it possible to separate monetary and fis- most of the countries have provisions in place to pre- cal policy and to leave sufficient authority to the vent officers and shareholders in financial institu- central bank.19 Without explicit limits on credit to tions from becoming members of central bank government, the central bank should not be made re- boards. Nevertheless, if the main role of the board is sponsible for price stability. to monitor the central bank, then it may not be harm- All the sub-Saharan African countries in the study, ful to have some government representatives on the with the exception of South Africa, have provisions board. As an alternative, a special audit board may that explicitly limit direct credit to the government. be established, as in Angola, Botswana, Mozam- However, a few of the laws stipulate that the limits bique, and Rwanda. should be set through an agreement between the cen- The appointment procedures of board members in tral bank and the government at the beginning of Madagascar are interesting because the head of each year (for instance, Ghana). This arrangement state, the government, the national assembly, and may create some uncertainty in inflation expecta- the senate each nominate two members, while the tions. But where there is strong seasonality and a tim- council of ministers actually appoints them. In ing mismatch in the flow of the government's rev- South Africa, the approximately 670 shareholders enues and expenditures, and where only a nascent of the Reserve Bank elect half of the 14 directors, market for government securities exists, it may be ac- who come from different sectors of the economy. ceptable to allow small temporary access to the gov- While these are interesting variations, in the vast ernment.20 The limit of advances varies from 5 per- majority of other cases either the minister of finance cent of the previous year's revenue in Botswana and or the head of state both nominates and appoints the Kenya to 25 percent of estimated annual revenue in directors. Mauritius. However, the more direct credit to the To further avoid any potential influence on mem- government a central bank can extend, the less likely bers of governing bodies, several of the selected cen- it is that the central bank will be able to neutralize the tral bank laws stipulate that remuneration is set at monetary and inflationary effects of such credit. the outset of a term and cannot be changed to the Central bank advances to government should be disadvantage of a member during the term. To but- repaid as soon as possible, certainly within the finan- tress this practice, in Rwanda, for instance, the gov- cial year. Admittedly, some spillover into the next fi- ernor continues to receive his salary one year after nancial year may be needed because of uncertainties his term ends. During this period, the governor is regarding revenue and expenditure projections. forbidden to assist public or private enterprises. Many of the laws allow advances to be repaid within three to six months of the new financial year. Some countries—such as Ethiopia, Madagascar, Economic Autonomy Mauritius, Swaziland, and Tanzania—set an explicit The central bank should be protected from pres- sures resulting from government policies that de 18See, for example, Leone (1993) and Mackenzie and Stella facto limit the central bank's authority over mone- (1996) for a discussion of quasi-fiscal activities. tary policy. For example, the authority of the central l9For a detailed discussion on limiting credit to government, see Leone (1991) and Cottarelli (1993). bank is diminished when it suffers losses resulting 20Several countries with more developed financial markets pro- from the government's quasi-fiscal operations, hibit the central bank from extending direct credit to the govern- which the government is not legally obligated to ab- ment (for example, the future European Central Bank).

31 ©International Monetary Fund. Not for Redistribution VI LEGAL INFRASTRUCTURE: CENTRAL BANK AUTONOMY

limit for indirect financing, including the part of the laws, either explicitly or implicitly, allocate the right central bank's portfolio resulting from open market to oversee the exchange rate regime to the govern- operations. A few other countries, such as Namibia, ment, often with an explicit requirement for consul- set an aggregate limit for all loans and advances. tation between the central bank and the government, This limit may be very useful if the central bank is as for instance in Botswana, Malawi, and Uganda. the major player in the market for government secu- However, a few of the more recent central bank laws rities and can thus perceptibly influence the interest allow the central bank to actually formulate the ex- rate of government securities through its actions. change rate policy, as in Kenya and Tanzania. In One way to exclude operations conducted with the Botswana, the government reports when the ex- sole purpose of managing the liquidity in the system change rate policy becomes unsustainable, and the is to exempt open market operations for monetary central bank can in principle then denounce its re- policy purposes. sponsibility for price stability in accordance with the Loans and advances should bear market-related provisions for conflict resolution. In most countries, interest rates, which, in principle would encourage however, the central bank is required to report only the government to approach the financial markets in problems in ensuring reasonable levels of foreign the first instance. In a few of the selected countries, exchange reserves. Unfortunately, if the government such as Kenya, the law explicitly stipulates the use does not react, most countries do not legislate when of a market-determined interest rate, while in the the central bank can temporarily abandon its objec- vast majority of the other countries, the central bank tive of price stability. A few countries have adopted is allowed to set the rate, as in Mauritius. Most cen- provisions to further improve trust in the currency, tral bank laws explicitly prohibit the central bank mainly through backing requirements, as, for exam- from participating in the primary market, but all the ple, in Mauritius and Swaziland. selected central banks can participate in the sec- ondary market. Financial Conditions In many developing countries, central banks get involved in quasi-fiscal activities that result in se- Financial provisions should ensure that the cen- vere losses and thus eliminate whatever autonomy tral bank does not become subject to indirect influ- they might otherwise have had. Activities such as ence from the government, which could happen if undertaking foreign borrowing on behalf of the gov- the central bank received frequent appropriations ernment, financial sector restructuring that gives rise from the government. Without provisions to ensure to the central bank's taking over nonperforming the solvency of the central bank, insufficient profits debt, guaranteeing an unsustainable exchange rate, could encourage the central bank to pursue higher financing development activities, and conducting inflation or to use direct monetary instruments that banking functions for state-owned commercial cor- may function as implicit taxes. The laws in the sub- porations can cause significant losses. These activi- Saharan African countries stipulate that the central ties should be separated from the central bank to im- bank can make prudent provisions and allocations prove transparency and avoid endangering monetary to general reserves before the residual profit is stability. Several sub-Saharan African countries nev- transferred to the government. In most of the se- ertheless allow quasi-fiscal activities in their laws— lected countries, a share of profits must be allocated in particular, for development purposes (Malawi, to reserve funds until such reserves reach a certain Swaziland, and Uganda). In some countries, the cen- ratio of the initial capital. In Botswana, however, tral bank's involvement in institutions to develop the the central bank in consultation with one minister economy is explicitly limited. determines the allocation of net profits. Another means of ensuring the financial viability of central banks is the following: given that most of the coun- Exchange Rate Policy tries have experienced high inflation in the past, the Monetary and exchange rate policies are closely level of general reserves retained is related to the related. Even without a free-floating exchange rate central bank's monetary liabilities, as in Malawi, regime, the central bank can achieve sufficient au- because this approach better reflects the risks the re- thority over exchange rate policy. The law should serves are intended to cover. Moreover, in all the stipulate that the central bank shall report on signifi- countries, the government is obligated to transfer cant changes in the level of reserves and the causes capital to the central bank in the form of nonnego- of this development and suggest measures to the tiable securities if the value of the assets is less than government to mitigate the situation if the foreign the sum of its liabilities and capital. Therefore, in exchange reserves reach critical thresholds. If the principle, the financial provisions in the selected central bank can determine the exchange rate central banks should in general be sufficient to en- regime, then there is no conflict. Most central bank sure autonomy.

Monetary Instruments nual report on the operations of the central bank. In addition to conferring on the central bank the However, an increasing number of countries, includ- authority to conduct monetary policy, the law also ing Kenya, Tanzania, and Zambia, now require the usually includes a range of more or less specific central bank to present semiannual monetary policy monetary instruments that the central bank can use. statements. Some central bank laws stipulate, in ad- The paradigm behind central bank autonomy pre- dition, that minutes must be taken on the delibera- sumes that the central bank does not direct credit tions of the central bank board, but they often leave within the financial system, because to do so would it to the board to decide on the manner of their publi- distort decision making about economic policies. cation. In practice, most central banks analyze and Specific allocation of credit should be left to the fi- publish information about the economy in their nancial sector, which would then determine the need bulletins. for credit according to profitability criteria for the Central banks control public money, and so sound private sector and according to economic criteria for business and financial practices are important to en- the government. However, in countries with less de- sure central bank credibility. Lavish or unnecessary veloped financial markets, the central bank may expenditures endanger credibility and, hence, auton- have to rely on more direct instruments during a omy. To ensure sound financial practice, the central transition period to affect the level of money in the bank must publish financial statements that are in banking system. accordance with international accounting standards, In addition to the right to set key short-term inter- and when practice deviates from these standards, est rates and to rediscount and conduct open market deviations should be fully disclosed. Many sub- operations in a specific list of financial assets, sev- Saharan African central bank laws are quiet about eral of the selected central bank laws have detailed accounting standards while explicitly stipulating that provisions on indirect monetary instruments. Many "sound accounting principles" should be used and of these instruments, such as restricting credit to spe- "proper books" kept. However, all the selected sub- cific sectors or limiting interest rates for certain de- Saharan African central banks are required to pro- positors or borrowers, have quasi-fiscal elements. duce annual audited statements, and these statements must be supplemented by other, more frequent—if less rigorous—statements. For example, a summary Accountability balance sheet must be published in most of the selected countries, at a minimum, by the end of each When the state delegates authority to an au- month. Such documents further facilitate the moni- tonomous central bank, the bank should be made ac- toring of the central bank. countable for how it uses that authority to conduct Most central bank laws require independent ex- monetary policy and for how it administers the often ternal auditors, but a few countries (for instance, significant amounts of public money. A precondition Ghana and Uganda) use the auditor general. While for monitoring the monetary policy performance of it is reasonable that the minister of finance, or the the central bank is that the objectives must be clearly person in charge of monitoring the central bank, defined, subject to ranking if there is more than one have the right to make ad hoc investigations, it is objective, and easy to monitor. important that independent, external, authorized au- Most of the sub-Saharan African central banks are ditors also be used to ensure full disclosure accord- accountable for monetary policy to the minister of ing to well-established accounting practices. finance, who then forwards the annual report and the On the basis of the foregoing, it is evident that audited financial statements to the legislature. Some- most sub-Saharan African countries recognize the times the central banks forward copies directly to the importance of providing a favorable legal and regu- legislature, which reduces the possibility of short- latory framework for the efficient conduct of mone- term government influence on the implementation of tary policy and, ultimately, of ensuring price stabil- monetary policy. However, in a few cases the minis- ity. It is also evident that most countries have made ter of finance (Namibia) or the council of ministers some progress in providing such an environment, al- (Madagascar) must approve the format in which the though progress has been rather slow for many rea- report is published. This could reduce the credibility sons. First, considerable inertia has been created be- of monetary policy. cause of tradition. Most sub-Saharan African central To facilitate performance monitoring, the central banks were established in the tradition of the Bank of bank law should stipulate that transparent reports on England or the Bank of France, both of which, until monetary policy should be published. Frequent in- quite recently, enjoyed only limited autonomy. Even formation on monetary policy can also make it more with the trend toward liberalization of financial sys- difficult for the government to intervene. Central tems, sub-Saharan African governments and their bank laws generally require, at a minimum, an an- central banks see little compelling reason to change;

Box 4. Main Recommendations on Central Bank Autonomy and Accountability Objectives and targets. Price stability should be the pointment/confirmation should be by different bodies; preferred primary objective of monetary policy. Con- terms should be longer than the election cycle of the sistent with this broad objective, specific targets— main body in the appointment process and should be which could involve direct inflation targets, mainte- staggered; and dismissal of board members should nance of a fixed exchange rate, or monetary aggregate occur only for breaches of qualification requirements targets—should be established and published. These and misconduct and on performance grounds only if targets may be determined by the central bank (goal or clearly defined. The latter could be ruled upon by the target autonomy) or by the government in agreement supreme court or an independent tribunal and be with with the central bank to be implemented autonomously the other board members' prior consent. by the central bank (instrument autonomy). To facilitate accountability, the targets should be easy to Credit to government. If not prohibited, direct monitor. credit to the government should be carefully limited to what is consistent with monetary policy objectives and Monetary policy. A central bank should be free to targets. For example, temporary advances and loans implement monetary policy to achieve its target. To this could be allowed if (1) they are explicitly limited to a end, the bank should have authority to determine quan- small ratio of average recurrent revenue of preceding tities and interest rates on its own transactions without fiscal years (say, 5 percent); (2) they bear a market- interference from the government. related interest rate; and (3) they are securitized by negotiable securities. The central bank should not under- Conflict resolution. A clear and open process should write and participate as a buyer in the primary market be established to resolve any policy conflict between for government securities, except with noncompetitive the central bank and the government. Some of the bids and within the overall limit for credit to govern- points below (for example, the nature of government ment. Indirect credit to the government, or buying out- representation on the board) are potential channels for right existing government securities held by the mar- such a resolution; another approach is to allow the gov- ket, or accepting them as collateral, should be guided ernment to direct or overrule the central bank, but such by monetary policy objectives. The central bank should a power should be constrained to avoid other than ex- not finance quasi-fiscal activities. ceptional use. It should be absolutely clear to the exec- utive, the legislature, and the general public that re- Exchange rate policy. Basic consistency must be sponsibility for the results lies with the government, ensured between exchange rate and monetary policy. If not the central bank, if the latter is overruled, its advice exchange rate policy (including choice of regime) is ignored, or its effectiveness significantly limited by not solely the responsibility of the central bank, the government policies. bank should nevertheless have sufficient authority to implement monetary policy within the constraint of ex- Governor. For balance, nomination and appoint- change rate policy (for example, in a fixed-rate regime, ment/confirmation of the governor should be handled to support the exchange rate as the specific target of by separate bodies. The term should be longer than the monetary policy) and should be the principal advisor election cycle of the body with the predominant role in on exchange rate policy issues (for example, as to selecting the governor. Dismissal should be only for whether the current regime is most suitable for the fun- misrepresentation of qualifications or misconduct; lack damental price stability objective). In a conflict with of performance could also be grounds if clearly defined the government on exchange rate issues, the conflict in terms of the primary objective and specific targets. resolution procedures as above should come into The latter could be ruled upon by a suitable and inde- effect. pendent judicial process and perhaps be with the consent of the legislature. Financial conditions. The law should ensure that the central bank has sufficient financial autonomy to Board. Composition of the board should ensure a support policy autonomy, but with matching financial reasonably well informed and balanced view, but accountability. Its budget should not be subject to nor- should avoid conflicts of interest. Precisely what is rea- mal annual appropriation procedures (but could be sub- sonable depends in part on the role of the board (deci- ject to a longer-term appropriation—for example, on a sion making, monitoring, or purely advisory) and cycle consistent with the term of the governor). Only whether it is a single or multiple board structure. The realized net profits, after prudent provisioning by the highest level board should include a majority of nonex- central bank and appropriate allocations to general re- ecutive, nongovernment directors. Indeed, direct gov- serves, should be returned to the government. The government representatives should be eliminated from a ernment should ensure the solvency of the central bank policy board and probably also from a monitoring by transferring interest-bearing negotiable securities if board. If a government representative does participate the authorized capital is depleted. The body to which in a policy board, it should at least be without the right the central bank is accountable should be allowed to to vote (though it might be with a limited, temporary ask external auditors or the auditor general to review veto power). As with the governor, nomination and ap- the central bank's accounts and procedures.

34 ©International Monetary Fund. Not for Redistribution Areas for Further Reform on the contrary, most of these governments believe it that give explicit priority to price stability as the ob- is in their interest to maintain the status quo. Second, jective of monetary policy; give authority to the cen- the concept of an autonomous central bank and the tral bank to supervise the financial system; consoli- role it plays in the development of the financial sys- date the licensing and revocation of licenses in one tem have gained acceptance only within the last body, preferably the central bank; require an institu- decade; it may take time for sub-Saharan African tionalized, transparent mechanism for resolving di- countries, which are only now making a break- vergences between fiscal policy and monetary pol- through with financial sector reform, to embrace all icy; ensure that governors of central banks and the tenets of an autonomous central bank. Third, members of boards of directors do not come under most sub-Saharan African governments are not as undue political influence; place explicit and reason- committed to structural reform of the economies as able limits on the amount of credit that the central would be desirable for longer-term growth. Except bank can grant to the government; require such cred- for a few countries, even in those where central its to be collateralized by income-yielding assets banking laws have been amended, structural reform bearing market-determined rates; protect the central has been initiated at the recommendation of the IMF bank from the obligation to undertake quasi-fiscal and other similar partners and not because of a deep- activities; and ensure the financial viability of the seated desire in the country for reform. Fourth, and central bank. (See Box 4 for a detailed description of perhaps most important, progress toward central required reforms in central bank autonomy and bank autonomy has been slow because of political accountability.) considerations arising primarily out of governments' A well-conceived legislation, however, represents unmitigated desire to exert control—directly or indi- only a minimum condition for central bank auton- rectly—over central bank finances in order to fund omy. A sufficient condition would be commitment government budget deficits. by governments to ensure compliance with the provisions of the legislation. In this regard, it would be necessary to set up independent, specialized courts Areas for Further Reform that deal only with matters relating to the financial sector. This is not only likely to speed up the settle- To attain a suitable level of central bank auton- ment of financial contractual cases, but will, above omy, therefore, governments need to promulgate all, send a clear signal regarding the direction and in- legislation that contains, at a minimum, provisions tention of financial policies.