Money, Banks and Finance in Economic Thought

Monetary policy between the visible and the invisible hand: theoretical reflections on the relative autonomy of central banks in the classical political economy

Sener Ulas, University of Potsdam

The controversy over the role of the state in monetary policy has been an ongoing issue in economics over the past two hundred years. In no other subject of economic theory and policy such a persistent conflict exists as between the paradigms of the ‘invisible’ versus the ‘visible’ hand over money and monetary policy. Since the emergence of classical political economy many economists came to believe that markets should be left to the principle of the ‘invisible hand’ and not be interfered with by state directives. Things look different when it comes to money, a domain in which the 'visible hand' of state institutions and their monetary interventions is rather obvious. Today, we observe a kind of compromise between the two paradigms within monetary policy. The legitimacy of a public institution like a central bank is hardly questioned, a fact that points to the acknowledgment of the necessity of the visible hand in regulating monetary policy. At the same time, it is a popular conviction among economists that monetary policy should be de-politicized and conducted without interference of politics in order to secure a sound money, thus conceptualizing the invisible hand under the notion of Central Bank Independence (CBI). Despite a broad consensus, CBI remains a disputed subject, as many recent events have demonstrated. Because monetary policy decisions are effected by domestic and international political economic developments, I propose to conceptualize the institutional status of independent central banks as one of relative autonomy. I argue that the concept of relative autonomy offers us a far more realistic characterization of monetary policy than CBI. This paper will examine the classical political economy literature on money and monetary policy on the subject of relative autonomy. The inquiry will highlight and discuss contributions from classical authors on CBI-related issues. Special emphasis will be given to representatives of the influential Currency School and the Banking School, as well as key authors like Henry Thornton and David Ricardo. In this regard, Arie Arnon’s recent historical account on the development of monetary theory and policy in Britain will be a major source of investigation. The paper will show that economic debates in the 19th century over the principle of the invisible hand on money and monetary policy already included and exhibited some of the fundamental problems of the later concept of CBI.

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Keywords: relative autonomy, central bank independence, monetary theory and policy, classical political economy