Central banks have realized major celebrations particularly due to their actions in ensuring that the financial system and the broader economy stabilized since the emergence of the 2007 crisis. Despite the praises that central banks have received for their diverse innovations in ensuring that markets remain open, injecting liquidity, and supporting the recovery of the macro economy, certain parties criticize the efforts of central banks, while arguing that they breach the vital boundary that prevails between fiscal policy and central banking. 1 For these censures, they mostly revolve around the political economy, hence amounting to key hindrances to the legitimacy of the central banks of today. The major area of focus in this sense is the central bank serving as the lender of last resort (LOLR). 2 Concerning LOLR, particularly within the United States, the environment is considerably toxic, with numerous debates poisoning the idea of central banking. After perceiving central banks to have overstepped their jurisdiction when it comes to bailing out financial institutions, critics target the overreach in intervening with the macro economy as well. This serves as the scenario that has prevailed within the U.S. 3 For the paper, therefore, it discusses that failure of central banks in establishing legitimacy in the sphere of LOLR governance could put central bank independence at risk.
The comparative abandonment of LOLR in major literature concerning central banking during the last two decades is a disaster. It has led central banks to lose focus as well as experience struggles, such as when the liquidity crisis struck in 2007. 4 During this time, conventional macroeconomics directed major emphasis in conceptualizing a case relating to the independence of central banks and articulating increasingly complex models relating to the working of the monetary policy. 5 However, the models in the delicate banking system were left out particularly the ones that led to the introduction of central banking as an insurer of liquidity in the first place require careful explanation. Nevertheless, overall silence relating to LOLR did not prevail. Technical advanced literature improved, although it remained distant from policy debates, particularly LOLR served as a past relic. 6 Only limited exclusions before the domination of the crisis commentary oriented toward policy, particularly within the U.S., based on arguments aimed at eliminating or restricting liquidity insurance, and central banking as well. In this sense, wrongly or rightly, the parties that remained connected to LORL, such as the ones within the Fed system, are considered politically partisan, thereby following sectional interests. 7 However, such an issue would not make a case that would lead to casting aside their arguments. Events and the two have raised intense challenges and questions.
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A major stark allegation attributed with critics relate to where they claim of central banks helping insolvent firms while extending past their legally permissible authority of doing so. A key practical difficulty that central bankers have witnessed revolves around where companies have exercised increasingly reluctant in turning to the LOLR, particularly through bilateral facilities, including Discount Window, because of the existing stigma, leading the financial system to become fragile in a manner that regulations would experience problems to undo. 8 These appear like distinct issues, although they link closely. Considering the 2007-2009 crisis phase, it raised questions pertaining to the issues. These comprised of whether central banks needed to lend against narrow of broad collateral classes; whether non-banks should receive assistance; whether they should serve as last resort market markers; what occurs in the event that liquidity shortage is in the form of foreign currency? 9 Regarding these issues, they present differing governance and technical issues, which create a need for central banks to exercise democratic governance and accountability in the liquidity insurance area.
The dominant issue surrounding the LOLR governance and risking the independence of central banks revolves around legitimacy. This entails making sure that the role that central banks play in LORL is authentic in democratic societies in the event that an elected legislature delegates powers and responsibilities. Generally, when it comes to power delegation to independent agencies, it is crucial to ensure that they meet certain major principles. Here, it becomes crucial to make sure that the primary legislation frames high-level purpose goals or the government fleshing them out under statutory authorities. 10 Central banks also need to ensure that they operate within specific domains based on reasonable clear standards while transparency remains sufficient. Additionally, it becomes crucial to steward and monitor the central bank and existing regime while at the same time providing an avenue for public discourse. Furthermore, clarity should prevail concerning what takes place procedurally and substantively. The design percepts in this case entail the purpose and substance of the regime. 11 Overall, the question regarding the LOLR function emerges. It entails, committing to lending to facilitate in maintaining systemic distresses. These forms of commitments need credibility and consistency. In this perspective, when central banks fail to establish authenticity in the area of LOLR governance, they might risk their independence due to a need for overseeing their operations to ensure that they match with the legislation requirements.
Bibliography
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