Since the global financial crisis, central bankers have injected trillions of dollars of cheap money into the financial system to maintain the stability of the economy. The consequences of their generosity are now being felt by taxpayers as well.
The Federal Reserve and its European counterparts must pay enormous interest to commercial banks on deposits that the institutions themselves produced through big asset purchases and low-interest loans after raising interest rates to combat runaway inflation.
At a time when millions of people are experiencing a cost of living crisis, the optics of this situation are already ominous. Even worse, it indicates that they will have little to no money to contribute to the government's coffers, and several European central banks may even require assistance from the public.
Lex Hoogduin, a former member of the Dutch central bank's board of directors and a professor of economics at the University of Groningen, remarked, "The central bank continues to send money to the banks, while we have to cut back on our expenditure. So it’s mostly a political issue. "
To the dismay of a sector that believes it has already bore the brunt of a decade of low rates, calls are actually mounting to reduce interest payments to banks.
Michiel Hoogeveen, a Dutch politician on the European Parliament's economic committee, who controls the ECB, is one of many who wants lenders to bear the burden.
"If the taxpayer ends up paying the bill, that will be very unfair," he told Reuters.
Paul Tucker, a former deputy governor of the Bank of England, has encouraged the BoE to reduce the interest on a portion of those reserves in order to save between 30 and 45 billion pounds ($84.93 billion) over the course of the following two fiscal years.
According to Morgan Stanley, every percentage point increase in the BoE rate reduces payments to the Treasury by 10 billion pounds annually.
The BoE has earned 120 billion pounds in profits for the British government since 2009, and 11 billion pounds have already been set aside for a transfer to the central bank.
The Fed may simply postpone any loss, so the US Treasury will not have to worry about saving it. However, it will no longer get the roughly $50–100 billion that it has been getting annually from the central bank since the financial crisis.
As a result, money will now go to banks, many of which are foreign, and Fed chief Jerome Powell is expected to draw criticism from politicians.
"The Fed won’t be bankrupt financially but it could be politically," according to Derek Tang, an economist at the research company LH Meyer.
The ECB, the entity for whom the issue is most severe, this week will consider measures to reduce its interest bill within a web of political, legal, and financial obstacles, is
By providing banks with loans at negative interest rates, the central banks of the 19 nations that make up the Euro have fashioned a rod for their own backs.
These are now poised to make a guaranteed profit by just depositing that cash back at their national central bank, collecting an annual interest rate of 0.75 percent, which is expected to double this week and increase to 3 percent next year.
According to Eric Dor, the head of economic research at the IESEG School of Management in Paris, this arbitrage will bring in 31-34.9 billion euros for banks if the deposit rate rises between 2.5 and 4.5 percent.
According to Morgan Stanley, it will add to losses for central banks in the euro zone of almost 40 billion euros in 2019.
Ironically, because they store a bigger portion of bank deposits and the bonds they purchased on the ECB's behalf return zero or less, the central banks of the most fiscally responsible nations—the Netherlands, Germany, and to a lesser extent, Belgium—will be the worst hurt.
The Dutch central bank explicitly stated that it could require a bailout, though subsequently, finance minister Sigrid Kaag stressed that this was "not yet on the table." They have all spoken of impending losses.
Like contrast, central banks in Italy, Spain, and Greece with less liquidity and higher-yielding bonds were probably going to do better.
According to ISEG's Dor, "It is clear that the Dutch and German citizens have never voted for such redistribution through the backdoor."
According to Johan Van Overtveldt, the Belgian who chairs the budget committee of the EU Parliament, this may even make subsequent choices more challenging by fostering animosity between northern and southern taxpayers.
On the other side, the banking industry was already opposed to the idea of reducing bank compensation.
Any "change of the contractual conditions could impair the trust" in central banks, according to German banking lobby Deutsche Kreditwirtschaft, and Spanish lender Bankinter stated it was not a "good idea."
According to Citi, Italian and Spanish banks benefited the most from this so-called "carry trade" and would suffer the most if it were eliminated.
However, the current situation can be too unpleasant politically and economically.
According to French insurer AXA, raising the deposit rate to 3% will result in a 1% of GDP worsening of the fiscal balance for the euro zone in the first year.
Dorien Rookmaker, a Dutch member of the European Parliament's economic committee, stated that if taxpayers are required to foot the price, it might lead to political instability and government changes in Europe. "It is a dangerous path."
By fLEXI tEAM