Central Bank Balance Sheet Research Articles

Central bank balance sheet, liquidity and autonomous factors

For monetary policy implementation purposes, it is important to forecast demand of liquidity in the market in order to ensure market equilibrium that is close to the monetary policy target by injecting or withdrawing liquidity from the market. One of the main reasons of changes in liquidity conditions is autonomous factors, which are reflected in central bank balance sheet. There are interconnections between the changes in these factors, the exploration of which can enhance the effectiveness of liquidity demand forecasts.

Banking Crises Under a Central Bank Digital Currency (CBDC)

Abstract One of the main concerns associated with central bank digital currencies (CBDC) is the disintermediating effect on the banking sector in general, and the risk of bank runs in times of crisis in particular. This paper examines the implications of an interest-bearing CBDC on banking crises in a dynamic bank run model with a financial accelerator. The analysis distinguishes between bank failures due to illiquidity and due to insolvency. In a numerical exercise, CBDC leads to a reduction in the net worth of banks in normal times but mitigates the risk of a bank run in times of crisis. The financial stability implications also depend on how CBDC is accounted for on the asset side of the central bank balance sheet: if CBDC issuance is complemented by asset purchases, it delays the onset of both types of bank failures to larger shocks. In contrast, if CBDC issuance is complemented by loans to banks, it substantially impedes failures due to illiquidity, but only marginally affects bank failures due to insolvency.

Exchange rate dynamics and the central bank's balance sheet

Are nominal exchange rate variations linked to the central bank's balance sheet, in particular to remunerated domestic liabilities? We use two metrics of implied exchange rates based on central bank balance sheet data: one is a traditional metric that includes the monetary base, and the other adds remunerated domestic liabilities. We first estimate a VAR model to investigate the endogenous interactions between central bank balance sheet components for a set of seven Latin American countries for the 2006:01-2019:12 period. Then, we use a pairwise cointegration framework to compare these two metrics of implied exchange rate with the spot (observed) exchange rate. We find that the implied exchange rates and the spot exchange rate are cointegrated for most of the set of Latin American countries. We also find that for a subset of our sample, the spot exchange rate adjusts to the metric that adds remunerated domestic liabilities. We conclude that remunerated domestic liabilities matter for understanding exchange rate dynamics, and explore a simple theoretical setup to better understand the mechanism.

The Central Bank Balance Sheet As a Policy Tool: Lessons From the Bank of England's Experience

The Central Bank Balance Sheet As a Policy Tool: Lessons From the Bank of England's Experience

Liquidity, Liquidity Everywhere, Not a Drop to Use: Why Flooding Banks with Central Bank Reserves May Not Expand Liquidity

ABSTRACTCentral bank balance sheet expansion, through actions like quantitative easing, is run through commercial banks. While this increases liquid central bank reserves held on commercial bank balance sheets, demandable uninsured deposits issued to finance the reserves also increase. Subsequent shrinkage in the central bank balance sheet may entail shrinkage in bank‐held reserves without a commensurate reduction in deposit claims. Furthermore, during episodes of liquidity stress, when many claims on liquidity are called, surplus banks may hoard reserves. As a result, central bank balance sheet expansion may create less additional liquidity than typically thought, and indeed, may increase the probability and severity of episodes of liquidity stress.

The Unforeseen Results of Unconventional Monetary Dominance

This empirical study investigates the implications of the substantial size of central banks’ balance sheets and the potential risks of their gradual normalization. Following the global financial crisis of 2008, central banks worldwide implemented unprecedented monetary stimulus measures, including large-scale asset purchases and unconventional policy tools like quantitative easing (QE). As a result, central bank balance sheets expanded significantly, reaching historically unprecedented levels in size and composition. While these measures played a crucial role in stabilizing financial markets and supporting economic recovery, concerns have arisen regarding the eventual reduction of these balance sheets and the possibility of disruptive market dynamics. This research examines the challenges and risks of normalizing central bank balance sheets. Furthermore, it explores the potential occurrence of “hard landing” scenarios, where sudden reductions in balance sheets could trigger financial market turmoil and economic downturns. By analyzing historical precedents and theoretical frameworks, this paper offers valuable insights into the intricate relationship between central bank balance sheets and the dynamics of financial markets. It provides policymakers and market participants with valuable perspectives on navigating the path toward monetary policy normalization.

Georgia: Technical Assistance Report-Report on Stress Testing the Central Bank Balance Sheet and Developing Hedging Markets

Georgia: Technical Assistance Report-Report on Stress Testing the Central Bank Balance Sheet and Developing Hedging Markets

The Central Bank's Balance Sheet and Treasury Market Disruptions

The Central Bank's Balance Sheet and Treasury Market Disruptions

ANALYZING THE BALANCE SHEET OF THE EURO AREA NCBS AND THE ECB. THE IMPACT OF SECURITIES ON INFLATION AND ECONOMIC ACTIVITY

When assessing the decisions of a central bank, such as the European Central Bank (ECB), the traditional focus has been on its interest rate policy and the resulting implications. However, given the increasing use of unconventional monetary policy instruments in recent years, an examination of the Central Bank's balance sheet and its implications has become imperative. This paper investigates the evolution and impact of the Eurosystem's balance sheet on the Eurozone's economy. The empirical analysis utilizes a Structural Vector Autoregressive (SVAR) model to analyze the responses to exogenous shocks resulting from innovations in securities held for monetary policy purposes within the Eurosystem. Impulse responses indicate that unconventional monetary policy innovations exert positive impacts on prices and output. These results support the efficacy of unconventional monetary policy and advance knowledge of the links between the balance sheet policies of the European Central Bank and the broader Eurozone economic dynamics.

Is the time ripe for helicopter money? Growth impact and financial stability risks of outright monetary transfers

We study the effectiveness of helicopter money, once a thought experiment that is now a feasible option given new digital technologies. We consider the effects of central bank digital currencies (CBDC) from a theoretical point of view, by means of a stock-flow consistent model of a growing open economy. We compare the effectiveness of this tool with that of traditional fiscal and monetary policies. We find that issuing a CBDC by expanding the central bank's balance sheet can have a durable impact on GDP and crucially, it allows for the activation of a new transmission channel, which depends on the sensitivity of investment and of the interest rate to firms’ leverage. But it might reduce the demand for bank deposits, and even more crucially for bank loans, thus creating challenges for financial stability.

Frictions in scaling up central bank balance sheet policies: How Eurosystem asset purchases impact the repo market

This paper examines the impact of the Eurosystem's increased footprint in financial markets, resulting from the response to the Covid-19 crisis, on repo rates. We exploit transaction-level data on the repo market and the Eurosystem's purchase programmes and find that both marginal purchases (flow effect) and aggregate holdings (stock effect) have a significant downward impact on repo rates. The stock effect is nonlinear, and amplified when the central bank's holdings are larger. Finally, we find that the Eurosystem's Securities Lending Facility alleviates this collateral scarcity, but it does not fully compensate for the downward pressure on rates created by purchases.

Unconventional monetary policy and economic inequality

This paper evaluates the distributional effects of US unconventional monetary policy (UMP) implemented as an additional measure to confront recessions. In line with the literature, the results show that the UMP reduces the unemployment rate, moderately increases prices, and stabilizes financial conditions. Yet, it also increases income and wealth inequality, with a stronger effect on the latter. Central bank balance sheet policies tend to be the key measures that shape its general effects. The UMP raises capital income more than labor earnings, which leads to the relatively higher increase in income at the upper part of the distribution and as a result to the growth of income inequality. Also, the UMP increases stock prices more than house prices, which results in the relatively larger growth of wealth at the top end of the distribution, leading to the rise of wealth inequality. These results indicate the need for complementary fiscal policy measures.

Central bank balance sheet, money and inflation

Central bank balance sheet, money and inflation

Central Bank Balance Sheet Policies Without Rational Expectations

Abstract We study the effects of central bank balance sheet policies—namely, quantitative easing and foreign exchange interventions—in a model where people form expectations through an iterative level-k thinking process. We emphasize two main theoretical results. First, under a broad set of conditions, central bank interventions are effective under level-k thinking, while they are neutral in the rational expectations equilibrium. Second, when preferences exhibit constant relative risk aversion, asset purchases increase aggregate output if they target assets with pro-cyclical returns but reduce it if asset returns are counter-cyclical. Finally, we empirically show that forecast errors about future asset prices are predictable by balance sheet interventions, a property that differentiates our channel from popular alternatives, such as portfolio-balance and signaling channels.

Liquidity Dependence and the Waxing and Waning of Central Bank Balance Sheets

Liquidity Dependence and the Waxing and Waning of Central Bank Balance Sheets

Liquidity Dependence and the Waxing and Waning of Central Bank Balance Sheets

Liquidity Dependence and the Waxing and Waning of Central Bank Balance Sheets

A Structural Time Series Analysis of the Effect of Quantitative Easing on Stock Prices

In this paper, a structural time series model is estimated to analyse the effect of quantitative easing (QE) on stock prices for the US, UK and Japan. The model is estimated by maximum likelihood in a time-varying parametric framework, using the DJIA, S&P500, NASDAQ, FTSE100 and the NIKKEI225 as the dependent variable and the balance sheet of the respective Central Bank as an explanatory variable, along with the unobserved components that account for the behaviour of other explanatory variables that are not explicitly specified in the model. The results show that QE had a significant but not exclusive effect on the DJIA, S&P500 and the NASDAQ, suggesting that these stock prices are also affected by other missing variables and cyclical movements. However, for the UK and Japan, no effect of QE on the FTSE100 and the NIKKEI225 is found, suggesting that variables other than QE are important for the rise in these stock prices. One plausible explanation for this result is that perhaps QE becomes effective only after a certain threshold level is met.

Taming the Global Financial Cycle: Central Banks as Shock Absorbers in the First Era of Globalization

The Classical Gold Standard period, with high capital mobility and fixed-exchange rates, is usually seen as the extreme case of international constraints on monetary policy. Contrary to this view, we show how central bank balance sheets offset the effects of international shocks on domestic interest rates. In contrast, in the United States, a gold standard country without a central bank, the reaction of money market rates was two to four times stronger than that of interest rates in countries with a central bank. Our study is based on the monthly balance sheets of all central banks in the world (i.e., 21) from 1891–1913.

The macroeconomic effects of unconventional monetary policies in a commodity‐exporting economy: Evidence from Mongolia

AbstractThis paper examines the macroeconomic effects of unconventional monetary policies in Mongolia, a developing and commodity‐exporting economy. Within a Bayesian structural vector autoregression framework, central bank balance sheet, policy rate, demand, and supply shocks are identified using a combination of sign and zero restrictions. An expansionary balance sheet shock stimulates bank lending and M2, decreases interest rate spread, leads to a depreciation of the domestic currency, and increases output and consumer prices. The estimated output and consumer price effects are qualitatively similar to the effects of conventional monetary policy, while the impacts on the exchange rate and foreign exchange reserves are different. We also find favourable evidence for the delayed overshooting response of the exchange rate to the balance sheet shock and reveal that financial friction amplifies the effects of demand and supply shocks on the Mongolian economy.

Bringing Credibility Back to Macroeconomic Policy Frameworks

For most of the past decade, unconventional monetary policies (UMPs) have affected the wealth of savers, renters and younger generations. These policies, which enlarge central bank balance sheets – supporting credit expansion in the economy – but have no reliable mechanism for reversal, raise the simultaneous risk of higher inflation and deflation. In this paper, we critique UMPs by drawing on extant literature and empirical data that elucidate the undesired economic effects they cultivate. In particular, we focus on the implications of UMPs on efficient portfolio holdings by proposing an intuitive ex‐ante measure of dynamic efficiency loss that has applications for future research.