Losses from bond purchases put Bundesbank in political line of fire
Rising interest rates leave the German central bank and ECB at risk of public backlash
Germany’s central bank will on Wednesday reveal how big a financial hole it faces from rising interest rates, which analysts warn will saddle it with mounting losses in the coming years and increase political scrutiny of its massive bond purchases.
The Bundesbank is being squeezed by the growing gap between the rapidly rising interest it pays to commercial banks on their deposits and what it earns on the €1tn of debt it bought in recent years as part of the European Central Bank’s bond-buying programmes, many of which yield negative rates.
The gap risks tipping the Frankfurt-based institution into its first loss since the 1970s and could put a dent in its hard-earned credibility, economists say, even though it is likely to draw on €20bn of provisions it has built up in recent years to absorb any losses for 2022.
Daniel Gros, a fellow at the Centre for European Policy Studies think-tank, estimated the German central bank would suffer €193bn of losses on its investments in government bonds over the next decade, more than any other national central bank in the eurozone.
The deterioration of the Bundesbank’s performance will have a knock-on effect on German public finances.
Over the past decade, the central bank has distributed more than €22bn of its profits to the government. But it is not expected to pay a dividend for the third consecutive year at a time when Berlin’s finances are also coming under strain from rising interest rates.
German finance minister Christian Lindner warned this week that the annual interest the country pays on its debt had risen tenfold in two years — from €4bn to €40bn — following the ECB’s decision to stop buying extra bonds and to raise interest rates by 3 percentage points. “That is money that cannot be spent elsewhere,” he told Bild Zeitung, the German tabloid.
The losses could also trigger fresh criticism of the ECB, which has frequently come under attack in Germany for its decision to purchase trillions of euros of mostly government bonds to support the region’s economy.
Bild recently dubbed ECB president Christine Lagarde “Madame Inflation”, blaming her for being too slow to raise rates in response to record inflation. The German press also depicted her predecessor Mario Draghi as a vampire and a gangster.
“The public criticism will increase,” said Ulrike Neyer, professor of monetary economics at Heinrich Heine University Düsseldorf. “First, because there will be no payments to [the] government. Second, because people may argue that the central bank’s independence is at risk. However, I think this criticism is not totally justified.”
Former Bundesbank president Jens Weidmann was regularly outvoted on the ECB’s decision to buy bonds. A legal challenge against the bond purchases is still pending in Germany’s constitutional court.
The German central bank, which presents its annual report in Frankfurt on Wednesday, is not alone in confronting tougher times. Several national central banks, including those in the Netherlands and Belgium, have warned their governments that they expect to make significant losses and to stop paying dividends.
The ECB said last week it made no profits in 2022 and scrapped its dividend for the first time in 15 years. In January, the Swiss central bank reported a record annual loss of SFr132bn ($143bn), mainly caused by foreign exchange losses.
Most analysts think these shortfalls should not matter as central banks do not aim to make profits and cannot go bust when they have the power to print money.
“Profits are always better than losses,” said Jörg Krämer, chief economist at Commerzbank. “But various central bankers have rightly made clear in the past that they could even operate at negative equity as long as their credibility with the people is intact.”
Bundesbank president Joachim Nagel is on Wednesday likely to emphasise that there is little risk of it facing a situation of negative shareholder equity — in which liabilities exceed its assets — as it has more than 3,350 tonnes of gold worth about €170bn sitting in Frankfurt, New York and London.
But with central bankers in Europe facing criticism for maintaining ultra-low rates for too long as inflation spiralled upwards, economists say the losses could increase pressure on them to shrink their balance sheets.
Volker Wieland, professor of monetary economy at Frankfurt’s Goethe university, said: “It is better to let the balance sheet decline rather quickly along with rising interest rates.”
The ECB has announced plans to reduce its almost €5tn bond portfolio by €15bn a month from March by not reinvesting the proceeds of some maturing bonds. But Wieland said it was moving “at a glacial speed”, adding that by keeping such a large balance sheet the ECB “opens itself up to considerable pressure from the political side”.
The Bundesbank won widespread public admiration for its swift interest rate rises in the 1970s that helped Germany to avoid the double-digit inflation that plagued much of the western world. Its solid reputation was summed up by a quip from former European Commission president Jacques Delors that “not all Germans believe in God, but they all believe in the Bundesbank”.