Frankfurt For a long time, central banks were a kind of cash cow for finance ministers. Year after year, they transferred billions to national budgets in Europe.
These times are over for the time being, as the current results of the European Central Bank (ECB) for the past year show. The central bank suffered a loss of 1.6 billion euros. Only by releasing provisions of this amount does it show a balanced result overall. As early as 2021, their annual surplus had shrunk significantly to 192 million euros.
The reason for the current losses is the turnaround in interest rates, which is burdening the balance sheets of the central banks with many billions. The ECB is the pioneer because it presents its figures particularly early. The Bundesbank and other central banks are likely to suffer a similar fate. Economists see this as a reputational risk for the monetary authorities.
The chief economist at the Swiss Sarasin Bank, Karsten Junius, believes that the loss by the ECB is “unproblematic at the moment”. However, he fears that its reputation could suffer if it “posts further losses in the next few years and breaches its inflation target”. Junius expects further negative annual results from the central bank in the coming years.
Frederik Ducrozet, economist at Swiss asset manager Pictet, also fears that political pressure could be exerted on the central banks if they make heavy losses for too long. “This could raise concerns about the independence of central banks, but also about their credibility as inflation fighters.”
The Swiss central bank (SNB) had already caused a stir, reporting a loss of the equivalent of 133.6 billion euros for 2022. The Swiss are a particularly extreme case because they hold a large portfolio of foreign stocks and bonds, which they are required to value at current market prices. But the Australian central bank has already reported a loss.
Central banks are particularly affected by falling bond prices. Because many have bought government securities of their home countries on a large scale. This applies in particular to the ECB and the national central banks in the euro area such as the Bundesbank. Accordingly, they are susceptible to price losses. For comparison: A broad index of European government and corporate bonds with good credit ratings lost around 17 percent in value in 2022.
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However, unlike the SNB, the ECB, Bundesbank and Co. do not report their bonds according to market prices. As a result, these price losses are not yet visible.
In addition, however, the central banks have lent the states money over the long term on extremely favorable terms, in some cases even at negative interest rates, through the bond purchases. This means that they receive little interest on these outstanding debts.
Higher interest payments by the central banks
On the other hand, the central banks have borrowed money because banks park excess liquidity there. The deposit interest due for this was still minus 0.5 percent in the euro area at the beginning of 2022. So the banks paid a kind of fee for parking excess liquidity with the central bank. The deposit rate is now 2.5 percent. So you get a significantly positive interest rate.
Overall, this leads to an imbalance: the income of the central banks from the interest on government bonds remains low – but the interest payments to the banks are rising sharply. This initially affects the national central banks, where the commercial banks have their accounts. But the ECB itself also buys paper and refinances it from the national central banks at meanwhile also higher interest rates. So it’s in the same bind: higher interest expense but still low corresponding income.
Write-downs on currency reserves of the ECB in US dollars also had an impact. This involves, for example, US government bonds held by her, where she has to realize price losses directly, unlike in the case of European papers.
Overall, the ECB still has buffers on its balance sheet to absorb further losses. These include provisions of 6.6 billion euros and other reserves to cover exchange rate losses amounting to 36.1 billion euros. Its equity amounts to 8.9 billion euros.
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If these buffers are used up, it could increase its equity. In this case, the national central banks would have to give it additional funds according to their share of the capital key. But that would not be absolutely necessary. Because unlike conventional companies, central banks cannot go bankrupt.
For bad times
20
billion euro
The Bundesbank has built up provisions in recent years.
Ultimately, it is governments that suffer from the loss of profits. First of all, however, it will have consequences for the national central banks. Unlike in previous years, you will not receive any distribution of profits. The ECB always distributes its annual surplus in full to the national central banks of the euro countries. With Croatia joining the monetary union at the beginning of the year, 20 national central banks are now part of it.
In the coming months, other central banks in the euro area are likely to report losses. The Belgian central bank has already announced that it expects this to happen in 2022. The head of the Dutch central bank, Klaas Knot, also said in a letter to the finance minister that he expected losses of nine billion euros between 2023 and 2026 due to the interest rate turnaround.
Bundesbank has formed large provisions
Bundesbank President Joachim Nagel has also announced the same for Germany. He also emphasized that the German central bank had made provisions for this eventuality. In recent years, it has built up provisions of around 20 billion euros for this.
The effect for 2022 is still relatively clear because interest rates were only increased from July 2022. However, the provisions would then gradually be used up in the following years. “And we will have years in which there is a high probability that the Bundesbank will report losses.”
The Bundesbank is probably more affected by losses than other central banks in the euro area because it holds Bunds with lower yields than government bonds from Italy, Spain or Greece, for example.
For the Bundesbank, it would not be the first time that it posted losses. In the 1970s there were already seven years where this was the case. At that time, this was due to the floating of exchange rates after the end of the Bretton Woods system. This led to a strong appreciation of the D-Mark, causing currency reserves such as US government bonds to lose value.
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