Central banks are… weird banks.
They don’t operate like regular banks, they are owned (“owned”, #758714 or #745752) by their government, not run on a for-profit basis. Since the Quantitative Easing experiments began like crazy after the 2008 crisis, they also hold/finance/trade a significant portion of a country’s national debt. (if memory serves, Sweden, a country with comparatively low government debt-to-GDP, at some point in the 2010s almost ran out of government bonds since the Riksbank kept eating them all, leaving nothing left for the liquidity of the market and/or banks' and pension funds' required asset holding.)
Having loaded up bonds on their balance sheet for all of the 2010s, seeing-slash-pushing interest rates lower and lower and lower, they kept realizing profits—juicy profits they sent to their real owners (i.e., governments). The U.S. Treasury, for instance, enjoyed a nice $85 billion a year (or about 1.3% of what the Federal government spent last year 1) bonus to the Federal budget.
…until they had to hike interest rates in response to the “surpiiiiise” inflation nobody could have prediction post-COVID insanity spending and printing.
Now, the flip side of the “realized profits” from back then revealed itself. When a central bank prints money and buys assets (which is the way that QE took place and new money entered the financial system) they do so at a price. If that price falls, the central banks have to recognize losses on their balance sheets. So in 2023 and 2024 central banks all over the world started recording losses—so much so that, I believe, most of them are now insolvent on an accounting basis.
For a normal company that means bankruptcy: you’re done. For central banks, well… these losses are not so permanent, and not so real. Given that the assets they hold are largely government debt that will pay off at par at some future time, it’s not particularly urgent.
This isn't a big secret or anything, they admit this openly. Writes Marc Labonte for the Congressional Research Service 2
"As a result, its remittances to the Treasury have fallen close to zero for the first time since 1934. But unlike a private company, under the Fed’s accounting conventions, negative net income does not reduce its capital, cause it to become insolvent, or require a capital infusion to maintain solvency. Instead, it registers the losses as a deferred asset. Remittances will not resume until the deferred asset is drawn down after net income becomes positive again, which will occur once the yield on its assets exceeds the interest rate on its liabilities."
This “Enron-like accounting” 3 allows the Fed to keep going as usual. The head of the Swedish Riksbank proudly remarks that “a negative equity does not affect the Riksbank’s ability to conduct monetary policy in the short term.”4
Nothing to see here. The bank further clarifies the racket they're in:
“A common source of income for central banks is what is known as seignorage. This emanates from central banks having a monopoly on issuing banknotes and coins, while the cost of minting and printing these is relatively low. It is an interest-free financing of the central bank’s assets that helps to generate profit. However, the low use of cash in Sweden makes restoring equity more difficult for the Riksbank than for many other central banks.”5
Ugh-hu. Still looks bad. So there were two different approaches for what to do about this; fiscally speaking, amount to the same thing:
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re-capitalize the insolvent banks. This means take taxpayer funds and hand over to the central bank as new “equity,” and then we can keep going. It’s a one-time expense, and then the current problem is gone.
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Use accounting tricks to cover it up by, for instance, recording decades (or centuries') worth of future money printing profits in an asset on the balance sheet. Thus, the CB would no longer be insolvent because look, we are good for it!
Most countries went with the second option—Fed specifically, whereas the Riksbank went with recapitalization.
Well, when you do number 2 (nooo pun intended, at all!), you also stop remitting profits to your Treasury, so economically speaking the strategy collapses down to the first one. The result is the same: The central banks' owner-government either has lower incomes for the foreseeable future, or a one-time higher expenditure.
Congrats, welcome to fiat world clown accounting.
That's today's little money class.
Peace
/J
Footnotes
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https://www.riksbank.se/en-gb/press-and-published/notices-and-press-releases/press-releases/2024/the-riksbank-proposes-that-equity-be-restored-to-the-statutory-base-level/#:~:text=Riksbank%20proposes...-,The%20Riksbank%20proposes%20that%20equity%20be%20restored%20to%20the%20statutory,SEK%2043.7%20billion%20in%202024. ↩
