Bringing the Central Bank into the Study of Currency Internationalization: Monetary Policy, Independence, and Internationalization

Abstract

Despite the central bank's crucial position in the economy, as the issuer of the currency and the body responsible for monetary policy, its preferences regarding currency internationalization and its roles in that process have rarely been analyzed in the literature. This study attempts to fill this critical gap by bringing the central bank into the study of currency internationalization. A conventional understanding of currency internationalization is that it tends to reduce monetary policy autonomy, which implies a natural tendency of the central bank to oppose it. This study shows, however, that currency internationalization does not necessarily reduce the central bank's monetary policy autonomy, and may in fact even strengthen it. It shows that currency internationalization is likely to strengthen the central bank's independence as well. Based on these findings, this study argues that a central bank with weak monetary policy autonomy and low independence is more likely to support the internationalization of its country's currency. These arguments are empirically verified, mainly by in-depth analysis of the case of the People's Bank of China and the renminbi.