Should we get used to seeing central banks making losses?
The Basel Bulletin of the Bank for International Settlements (BIS) explains why central banks cannot fail despite losses or even go into negative equity when pursuing financial stability objectives. The success of their interventions is to fulfil the mandate of monetary policy. Central banks cannot be insolvent in the conventional sense even if central bank's losses affect consolidated public finances.
Main takeaways from the article:
- When central banks raise interest rates to curb inflation, net interest income decreases, as a large part of their liabilities is linked to policy rates. Asset valuations also fall as bond yields rise.
- Central bank finances are unique. Central banks are public institutions with political mandates; they normally transfer their surplus profits to the Treasury.
- Losses do not compromise central bank's ability to fulfil its mandate. They exist to fulfil their policy mandates, including financial and price stability. Unlike commercial banks, central banks do not seek profits, cannot be insolvent in the domestic currency and do not have to meet any regulatory capital requirements precisely because of their unique purpose. As a result, central banks are protected from judicial failure.