The Enormous Loans of the Deutsche Bundesbank to Distressed European Countries’ Central Banks

Abstract

As of October 2011, in the context of the TARGET2 payment system, the Bundesbank had accumulated a total claim of 465 billions € on the rest of the Eurosystem, that is on the other National Central Banks of the euro zone and the ECB. The growing claims of the Bundesbank and, to a lesser extent, the National Central Banks of Luxembourg, the Netherlands and Finland, are the counterpart of growing liabilities of the distressed peripheral countries of the euro area. Since the beginning of these crises the rising claims of the Bundesbank correspond to rising liabilities of the National Central Banks of Ireland, Greece and Portugal, and recently Italy and Spain.

The central bank of the Eurozone is in fact a set of several institutions known as the Eurosystem. It is composed of the European Central Bank and all the 17 National Central Banks of the member countries. Cross border payments between banks of different countries of the euro area are conducted through a system known as TARGET2. Through this payments system banks can transfer to each other claims on the National Central Banks, known as “central bank money” or “reserves”. Through TARGET2, each cross border transaction between countries belonging to the Euro area gives rise to a gross claim of a National Central Bank on another National Central Bank. Indeed the National Central Bank of the country of the “paying” bank needs to borrow claims on the National Central Bank of the country of the “receiving” bank, in order to transfer these claims to this bank. The National Central Bank of the country of the “paying” bank has thus to borrow reserves from the National Central Bank of the country of the “receiving” bank, before transferring the property of these reserves to this “receiving” bank At the end of each day, the claims or liabilities of National Central Banks on or to each other are netted and replaced by a net claim or a net liability of each National Central Bank on or to the Eurosystem. These daily net claims or liabilities are added to the cumulated TARGET2 balances of each National Central Bank built up since the launch of the euro.

Until 2007, the current account deficits of the peripheral countries of the Euro area were compensated by net capital inflows. Since 2008 however, the banks of Germany and other core countries are reluctant to lend to the banks of the peripheral countries, which also experience huge capital outflows. the growing imbalances of TARGET2 accounts are caused by a sustained reversal of capital flows. Net capital outflows now add to the structural imbalance of the current account of peripheral countries, due to a lack of competitiveness. the balance of payments imbalances of the distressed countries benefit from a kind of monetary funding by the Bundesbank.

If the euro zone broke up, the Deutsche Bundesbank could incur enormous losses on its TARGET2 related claims on the Eurosystem. In such a scenario, the Bundesbank should be recapitalized by the German government, at the expense of the German taxpayer. Even without a breakup of EMU, the Bundesbank should bear 30% of the potential losses of the distressed countries’ National Central Banks loans to their banks which lack good quality assets to provide as collateral.

Keywords: euro, target, target2, eurosystem, central bank

JEL Classification: E58, F31, F33, F34, F53, E51