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Functions and Duties of the Central Bank

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The central bank is one of the pillars in the modern economy that has several functions and duties. The most important of the many functions is to maintain a stable exchange rate of one country’s currency. However, is that really the only task that the central bank has?

The concept of a central bank has actually existed since ancient times, but it was first realized in Sweden, namely the Sverges Bank which was the forerunner to the modern central bank. Shortly afterwards followed by the establishment of the Bank of England. While the US central bank, The Federal Reserve Bank, or often called the Fed, only came into existence in 1913. While in Indonesia, Bank Indonesia as the central bank existed in 1952.

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An example is Bank Indonesia. Quoted from the bi.go.id site, the tasks and objectives of Bank Indonesia are as follows:

In accordance with Law No. 23 of 1999 about Bank Indonesia, one of the tasks of Bank Indonesia is to regulate and maintain a smooth payment system. In the field of payment systems, Bank Indonesia is the only institution authorized to issue and circulate rupiah and withdraw and destroy money from circulation. On the other hand, in order to regulate and maintain the smooth operation of the payment system, Bank Indonesia has the authority to implement, approve and permit the operation of payment system services such as real-time fund transfer systems, clearing systems and other payment systems such as card-based payment systems.

Central banks generally have a mandate to maintain currency stability. However, in reality, there are several central banks that have more duties than that. The Fed, for example, has the task of encouraging economic growth and maintaining stability. Encouraging economic growth, related to unemployment and labor. So the Fed must take part in thinking about reducing unemployment.

Dual Mandate of the Fed (source: chicagofed.org)

 

From the Chicago Fed’s website, the Fed’s dual mandate are as follows:

Our two goals of price stability and maximum sustainable employment are known collectively as the “dual mandate.” The Federal Reserve’s Federal Open Market Committee (FOMC), which sets U.S. monetary policy, has translated these broad concepts into specific longer run goals and strategies.

Price Stability

The Committee judges that inflation at the rate of 2 percent, as measured by the annual change in the price index for Personal Consumption Expenditures (PCE), is most consistent over the longer run with the Federal Reserve’s statutory mandate. The Committee has also explicitly noted that the inflation target is symmetric and stated that it “would be concerned if inflation were running persistently above or below this objective.”

Maximum Sustainable Employment

Many nonmonetary factors affect the structure and dynamics of the labor market, and these may change over time and may not be measurable directly. According to, specifying an explicit goal for employment is not appropriate. Instead, the Committee’s decisions must be informed by a wide range of labor market indicators.

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There are also countries that do not have a “central bank” but instead have a special body that acts like a central bank. Hong Kong, Singapore, Saudi Arabia are some countries that do not have a central bank but have a special body that handles monetary matters called the Monetary Agency. The difference is, this particular body is part of the government, in contrast to the central bank in most countries where the central bank is a separate institution of government.

There are also countries that do not have a central bank but have their own currency and there are also countries that have a central bank but do not have a local currency or the local currency does not function as a good payment instrument. Smaller British Commonwealth countries have their own currencies but they do not have a central bank. Timor Leste, Cambodia has a central bank but it does not have a local currency or its local currency does not function as a good payment instrument.

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In certain cases where the central bank is not independent and becomes the “ATM machine” of the authorities, the impact is high inflation due to continuous printing of money. Venezuela, Zimbabwe and even Indonesia have experienced this and resulted in declining purchasing power conditions. An independent central bank is absolutely necessary in maintaining monetary stability, especially from political policies that can damage a country’s monetary system.

The central bank is one of the guardians of the stability of a country, therefore it should not be interfered with practical interests and also for a moment from any group. An independent central bank will make the country more stable and sturdy in terms of financial stability.

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