The Effective Rate of Interest on Target Balances

Hans-Werner Sinn

No 7878, CESifo Working Paper Series from CESifo

Abstract: While the formal decision of the ECB Council to impose interest on Target claims and liabilities is meaningless, this paper shows that the pooling of primary interest income among national central banks in the Eurozone implies that Target and cash balances do, in fact, bear an effective rate of interest. The magnitude of this effective rate of interest is given by a weighted average of the ECB’s policy interest rates where (i) the relative country sizes and (ii) the uses of alternative sources and sinks of international liquidity flows determine the weights. Without countervailing transactions, which would effectively service the Target claims and liabilities, Target balances grow with compound interest. The payment of interest on Target balances internalizes the competitive externality that otherwise could induce excessive money supply in a decentralized monetary system of the kind characterizing the Eurozone. It also implies that the recording of Target balances in the balance sheets of national central banks is compatible with fair value accounting.

Keywords: Target2; ECB; interest; competitive seignorage externality (search for similar items in EconPapers)
JEL-codes: E40 F41 F45 H60 (search for similar items in EconPapers)
Date: 2019
New Economics Papers: this item is included in nep-cba, nep-eec, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Related works:
Chapter: The Effective Rate of Interest on Target Balances (2020)
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Persistent link: https://EconPapers.repec.org/RePEc:ces:ceswps:_7878

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