Are they loans? Are they mere clearing balances? Are they a danger just because they are so high? After the Bundesbank’s balance is 995 billion euros, the discussions have increased again. Notes on a complex topic.
And suddenly the balance is gone …
Assuming once, when the European Monetary Union was founded, it would have been agreed that international payments and securities transactions should not be handled by the national central banks such as the Deutsche Bundesbank and the Banca d’Italia, but only by the ECB in Frankfurt’s Ostend, which, after all Conducts banking business and the capital of which is owned by the national central banks.
A somewhat different organization of monetary transactions within the European system of central banks would not have changed anything in the economic situation of the individual euro countries. Germany would still have a large current account surplus, and Italy would not be better off economically.
But something would be different: there would be no target balances! You just wouldn’t be there! The balances only exist because payments are decentralized in the monetary union and not centrally. This should, above all, make those who are almost reflexively upset in Germany when they hear about the Target balances, at least for a moment think about what they are actually upset about.
After all, what is the economic content of a balance, which in the statistics makes up a not a small part of Germany’s international assets, but simply disappears with another form of payment processing, without otherwise changing anything economically? It is also interesting: If the central processing of payment transactions in the euro zone did not require the Bundesbank’s claims from the Target 2 system, the German foreign assets would otherwise be affected.
Since the ECB in Frankfurt’s Ostend achieved much higher profits in the normal course of business in the event of centralization of payment and securities transactions, the value of the Bundesbank’s participation in the ECB increased. Of course, if the ECB suffered large losses on its securities holdings, these would also affect the value of the Bundesbank’s participation in the ECB. After all, the Bundesbank’s participation in the ECB is more tangible than a target balance, for which it is not even clear whether it is a mere clearing balance or a claim in the economic sense.
The target balance as part of German international assets deserves attention in another respect: It represents a gross figure, but does not describe the entire position of the Deutsche Bundesbank with regard to the monetary union. Because the above-average strong demand for cash in Germany results in the Bundesbank’s liabilities to the European system of central banks of more than 300 billion euros. Anyone wishing to look at the Bundesbank’s influence on German international assets would have to adjust the target balance for the liabilities from the cash issue. However, this is apparently only insufficiently known.
Balance or credit?
German economists have fought bitterly over the years over the question of whether the balances from the Target 2 system are simply payment balances without further significance or loans with serious consequences for national wealth. The credit thesis is mainly represented by Hans Werner Sinn, the balance thesis by Martin Hellwig. Hellwig accuses Sinn of “misleading trivialization” in the target debate. Hellwig writes about Sinn’s handling of the Target debate: “The stories that Sinn tells are characterized by outrage and are intended to stir up outrage. But indignation can lead thinking into a trap and make rational discourse impossible. The disintegration of the discourses in Europe is dangerous – especially for Germany. “
Quotes from combatants on the question of credit or balance: “It is a misleading trivialization to speak of mere counter-entries in the context of payment transactions, because the target balances measure net transfers from other countries to Germany, which the Bundesbank forced, on behalf of other central banks to issue payment orders to carry out, ”writes Sinn. “According to my interpretation, the Bundesbank’s target claim is an overdraft facility in the internal relationship of the Eurosystem, which is similar in nature to the special drawing rights of the International Monetary Fund or the credit limits that central banks grant themselves within the framework of fixed-rate systems.”
“The target claims are not loans based on individual contracts, but positions in an internal ESCB account system [ESZB steht für: Europäisches System der Zentralbanken]; they result from the overall responsibility of the ESCB for the functionality of the payment systems, as laid down in the EU Treaty, ”Hellwig and Isabel Schnabel write in a joint paper. “The Target claims in the Deutsche Bundesbank’s balance sheet do not constitute any claims. The numbers do not correspond to the current value of the expected payments. “
This debate has many facets and cannot be dealt with comprehensively here. But a little thought experiment may take the reader on an interesting journey that ends with the realization that things are not as easy as they may appear at first glance.
Let us assume that Ms. Müller, who lives in Gießen, wants to sell her Porsche to Mr. Maier, who lives in Frankfurt, for EUR 100,000. It is agreed that Mr. Maier will transfer the amount.
In the first case, we assume that both Ms. Müller and Mr. Maier have bank accounts with the same bank. In Frankfurt, Mr. Maier transfers the money that will be credited to Ms. Müller in Gießen. There should be an internal booking in the bank that documents this cash flow. Has the Gießen branch granted the Frankfurt branch bank a loan that has to be paid interest or paid back? That should not be the case, rather the payments in the bank are very likely to be settled internally. The Gießen branch may have a positive balance internally, but there is no recoverable claim against the Frankfurt branch.
Let us now assume that Mr. Maier has his account with the Frankfurter Volksbank, but Ms. Müller with the Volksbank Mittelhessen. The two Volksbanks process their payments through DZ Bank, where they maintain accounts as independent banks. In this case, the Volksbank Frankfurt account at DZ Bank would be debited, and if this would result in a loss, it would have to get money to make up for it. This could be done by borrowing or selling securities. In return, Volksbank Mittelhessen will receive a credit on their DZ Bank account that they can use – for example, they can borrow the money from another bank or buy securities. This is also an economic sense of claims and liabilities.
Applied to European monetary policy, this example shows that the assessment of Target-2 balances has to do with the institutional perception of the European system of central banks. If it is similar to the Deutsche Bank model, the central banks are internal balances, but not loans. Hellwig sees it that way. If it resembled the model of the Volksbanks, it is more a question of loans than clearing balances. That’s the way it looks.
Anyone who looks at the real world realizes the hybrid nature of the model of the European system of central banks. National central banks such as the Deutsche Bundesbank are legally independent entities with different owners and, as a result of political decisions, they could even leave this system. This is an obvious parallel to the Volksbank model. A point for meaning.
However, in monetary policy practice, the national central banks are executive bodies of a monetary policy adopted by the ECB Central Bank Council with only limited autonomy for certain activities. So it is also legally fixed: According to Article 14 paragraph 3 of the Statute of the European System of Central Banks (ESCB) and the ECB, the national central banks are in the area of monetary policy “an integral part of the ESCB and act in accordance with the guidelines and instructions of the ECB.” That is reminiscent of the Deutsche Bank model: the branch directors in Frankfurt and Mainz are generally tied to the requirements of the Executive Board in their business policy, even if they do not, of course, have to have all loans approved by the Executive Board. A point for Hellwig.
Economists (and a few journalists) have been discussing these and other questions intensively for years in a forum that is not accessible to the general public. A third option was also mentioned there: is the European system of central banks perhaps a kind of holding model with the ECB as the holding company and the national central banks as legally independent subsidiaries of the holding company? In this case, payment balances between national central banks are likely to be credit-like. But this holding company comparison also poses problems: in such a construction, the holding company usually holds shares in the subsidiaries. In monetary policy, however, the national central banks hold stakes in the ECB. The thing is and will not remain easy.
Are central banks making losses?
A question that was also discussed between Sinn and Hellwig in connection with the target balances can only be touched on here, but it is somewhat explosive because it deals with the intuitively difficult topic of accounting by central banks.
Assume that Mr. Maier is penniless and deceptively produces real banknotes worth 1 million euros that he uses to buy Italian government bonds from a bank. (To keep the example simple, we assume that the costs associated with the forgery are negligible and the seller of the bonds accepts the cash.) Now Italy is going into a state bankruptcy, in which the value of the government bonds in circulation is halved. The man sells his government bonds for the new value of 500,000 euros. What does Mr. Maier’s bill look like? Well, apparently he made a profit of half a million euros from the forgery and the subsequent bond business, because before that he was penniless. Without state bankruptcy it would have been a million euros, but a profit of half a million euros is not bad either.
Now we assume that the ECB in Frankfurt’s Ostend is buying Italian government bonds for one million euros as part of its purchase program from a commercial bank. After that, Italy goes into a state bankruptcy, in which the value of government bonds in circulation is halved. What does the ECB’s bill look like? She suffered a loss of half a million euros, while Mr. Maier made a profit of half a million euros from an identical business! How can that be?
Mr. Maier and the ECB account for the bond purchase differently. For Mr. Maier, the money he created is an asset on the balance sheet that is exchanged for government bonds. For the ECB, the money it creates is a liability item on the balance sheet that arises as a result of the government bond purchase and is credited to the selling bank. Government bonds are an asset for the ECB. (At the address of notorious ECB critics, you could ironically remark here: This example alone shows that the ECB does not act like a counterfeiter …)
In his private balance sheet, Mr. Maier has cash and then bonds of over one million on the assets side and equity capital of one million on the liabilities side. After the Italian haircut, he still owns half a million equity. If the ECB buys the bonds of a commercial bank, the assets side of the balance sheet in the ECB grows by one million government bonds, while on the liabilities side the account of the selling commercial bank increases by one million euros through newly created money from the ECB. If the value of government bonds is halved, the ECB cannot simply debit the commercial bank’s account. It must offset the lost 500,000 euros against its equity. This is how the loss arises.
Now it is explained why economists like sensible losses for the central banks from the purchase of government bonds against the creation of money paint on the wall, while Hellwig derisively remarks that every counterfeiter knows (unlike some economists) that one can make money cannot lose any money from an economic point of view. However, the accounting of central banks is still not easily accessible in many other ways, for example when it comes to the different facets of money creation. Related to this is the question of what a central bank’s balance sheet loss says about its economic situation. But that is not our topic today, just as it is not about providing a comprehensive analysis of the “Target 2” complex.
We wanted to show that the subject of target balances is connected to aspects that are not recognizable at first glance and should a little caution with strong opinions …