Amalgamating Central Bank and Fiscal Deficits

Abstract

If central banks generate profits and turn the residual, after addition to reserves, to the treasury, marginal changes in bank profitability directly affect the central government`s fiscal deficit. However, if central banks generate losses that are not funded by the treasury, marginal changes will not affect the fiscal deficit. In addition, quasi-fiscal lending by central banks which can involve a large implicit subsidy, does not usually affect bank profitability immediately, although net lending by government is included in the conventional definition of expenditure. Under these circumstances, adjustments to the conventional fiscal deficit measure are necessary.

JEL Classification: 311, 321