Unveiling the Nexus Between Central Bank Autonomy and Free Market Dynamics: A Structural Equation Modeling Approach

Abstract The interaction between the independence of the Central Bank (CBI) and the principle of the open market plays a major role in shaping policy performance at the international level. The CBI ensures monetary stability by insulating central banks from political pressures, while open markets promote economic freedom and growth through regulatory efficiency and openness. This study aims to fill the gap in the existing literature by examining the combined effects of these factors on national policy outcomes. Using Structural Equation Modeling (SEM) estimated by second-order Confirmatory Factor Analysis (CFA), the study analyzes data from 143 countries including indicators for open markets such as trade freedom, investment freedom and financial freedom, as well as dimensions of CBI such as policy autonomy and legal frameworks. The results reveal that open market indicators, especially financial and investment freedom, significantly affect policy performance, often exceeding the direct effect of CBI. European countries with robust regulatory frameworks and open markets are ranked highly, highlighting the complementary nature of economic openness and institutional autonomy. Furthermore, the study finds that although central bank independence is crucial for economic stability, it does not by itself guarantee superior policy outcomes, especially in regions where economic freedoms are limited.