Financial Incentives and Central Bank Authority in Industrializing Nations

Abstract

Institutionalist models of macroeconomic performance in advanced industrial countries focus on central bank independence. In newly industrializing countries, however, the behavioral authority of the central bank is a much more significant predictor of inflation than is legal independence, because laws there are not the source of central bank ability to create or defend macroeconomic stability. Financial structures and the incentives they create for government politicians, private bankers, and industrialists explain cross-national variation in the interest and capacity of central banks in developing countries. The greater public sector deficits are, the weaker and/or more dependent private banks are on state assistance; and the larger the portion of industry finance covered by commercial bank loans or state credits, the less likely it is that there will be an authoritative, conservative central bank. Mexico, Thailand, Brazil, and South Korea are the four country cases considered in depth.