Policy Commitment Arrangements for Africa: Implications for Aid, Trade and Investment Flows

"This paper focuses on the commitment mechanisms a government can use to build credibility in trade and investment policies. We refer to commitment mechanisms as "agencies of restraint". We classify such agencies according to their domicile and the source of their power. Their domicile can be purely domestic, purely external or a hybrid. For example, a national central bank is a purely domestic agency, donor conditionality is purely external, and regional agreements are partly domestic and partly external. Agencies of restraint can derive their power through being based on penalties, through the devolution of authority or through some combination. For example, by establishing an independent central bank a government is able to restrain itself from interfering with the setting of interest rates. It achieves this through authority-shedding. However, an independent central bank thereby also acquires a role as a restraint over the fiscal policy of the government. If the government chooses to run a large fiscal deficit the central bank can raise interest rates. In turn this inflicts political costs on the government since electors dislike the increase in interest rates. Hence, an independent central bank is both a restraint upon monetary policy, based upon authority-shedding, and a restraint upon fiscal policy, based upon penalties."