A central bank’s decision to cut (or raise) its key interest rate has far-reaching ramifications. It can lower the yield on your savings, increase the cost of financing a new home or car or affect your job security.
In addition to the direct impacts on savings, higher interest rates can also cause currencies to become less valuable compared with other national or global currencies, which can impact individuals’ purchasing power when traveling abroad or making purchases in foreign countries. Similarly, the choice to adopt or abandon policies that support or weaken the currency’s value can influence how much people in a country can afford to consume locally.
Despite this omnipresent impact on the everyday lives of people around the world, many do not trust their central banks. Why? In part, this is due to lack of understanding about the role central banks play and how their decisions directly impact the people.
Traditionally, political leaders set an objective for a central bank—usually price stability or full employment—and then let the central bank decide how to use its policy tools to achieve this goal. The central bank’s independence is critical to achieving this goal because history shows that central banks subject to political interference often fail to control inflation. This, in turn, undermines people’s confidence in the economy and long-term growth prospects. This is why the importance of promoting financial literacy has never been more important. Increasing people’s economic and financial knowledge will allow them to disentangle the causes of economic problems and make more informed judgements about public institutions that implement economic policies.
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