Interest for the banks

Since the outbreak of the financial crisis 13 years ago, the total assets of many central banks have risen to an extent that was previously unimaginable. That arouses fears of inflation.

Dark future for the ECB?

Se since the outbreak of the financial crisis 13 years ago, the total assets of many central banks have increased to an extent that was previously unimaginable. The monetary policy programs to combat the economic consequences of the pandemic have accentuated this increase again in the past twelve months. The ECB’s total assets have risen from 1.5 trillion euros to a good 7 trillion euros since the financial crisis; the total assets of the American Federal Reserve increased from $ 800 billion to $ 7.7 trillion in the same period.

It used to be thought that the inflation rate was largely determined by the growth in the balance sheet total of a central bank; Such ideas can sometimes still be found in Germany today. In fact, the inflation rate has remained low for a long time, not only in Europe, despite the strong growth in total assets. If you follow a view that is widespread especially in the English-speaking world, you will not have to worry about a connection between the central bank balance sheet and the inflation rate in the future – provided that the central bank pays interest on the balances held by commercial banks at an attractive rate, which was unusual in the past. (The balances of the commercial banks make up the largest part of the liabilities side of a central bank balance sheet.)

This is intended to slow down the lending of commercial banks to their customers. In the eurozone, this rate has been negative for a long time, to the annoyance of commercial banks; that is, they have to pay interest on their ECB balances.

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FAZ series Smarter faster: This is how inflation worksImage: FAZ

In several publications, the Federal Reserve Bank of St. Louis has described how monetary policy can be operated with a permanently very large central bank balance sheet without any risk to monetary value. Their authors complain that these modern methods of monetary policy can hardly be found in textbooks; indeed, these concepts deserve critical debate. Whether this “new monetary policy” reliably keeps the inflation specter away, however, will only become apparent when there is a serious threat of inflation.