1. By ceding the right to control the amount of currency to a central bank, gove
ID: 2621741 • Letter: 1
Question
1. By ceding the right to control the amount of currency to a central bank, government
succeeds in addressing the problem of moral hazard. Discuss!
2. To guarantee price stability, a high degree of central bank independence and some explicit
mandate for the central bank to restrain inflation is an important institutional device. Do you agree?
Discuss.
3. Following Mathew (2010), the following four approaches are generally recommended by
the extant theoretical literature on remedies for the inflationary bias of discretionary monetary policy: (a)
rules (b) conservative central banker (c) principal-agent contracts and (d) inflation targeting. In your own
words1
.
4. What do you understand by the term
Explanation / Answer
1)
No, it greatly increases it. Moral hazard is where someone gets a benefit by forcing someone else to pay.
That is exactly what government does by
a) taking control of the amount of currency in the first place, and
b) ceding it to a central bank.
Think of it this way. If John Jones had a right to print money, he would just print and spend, print and spend, wouldn't he? Well it's no different when government grants itself this right. It's paid for by everyone who uses money - in other words, everyone - by the constant dilution of the money supply.
The problem of moral hazard would not be solved by government controlling the amount of currency itself.
The only way to solve it is to abolish government's monopoly of the supply of money, which can only ever be bad in principle and bad in practice.
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