Why would you need to recapitalize a Central Bank?I've seen references lately to the supposed need for Europe to recapitalize the ECB. What am I missing? A central bank doesn't need capital. It's not like other banks. It creates money out of thin air to buy balance sheet assets. Recapitalizing the ECB makes no sense to me. Is this related to some rule... |
What I've seen are arguments as to whether the ECB will play a role in recapitalizing other euro-zone banks, not that the ECB needs to be recapitalized.
http://www.ibtimes.com/articles/226042/2...
http://www.marketwatch.com/story/ecb-tak...
http://mobile.bloomberg.com/news/2011-10...
That said, here is a guess. As you have pointed out, a central bank, such as the ECB or the U.S. Federal Reserve creates money by buying "balance sheet assets" (i.e. government bonds) and paying for them with credits to the sellers' accounts.
Thus there is a sense that every euro or dollar created by the central bank is backed by an equivalent government bond. As long as those government bonds are good, the central bank is safe - when the bonds mature, the central bank will get its money back.
But this breaks down when the government defaults. Now you have all that money out there which hasn't been "sterilized" by being exchanged for assets. The balance sheet of the central bank shows that the central bank is under water.
Note that the Fed releases its balance sheets on a regular basis:
http://www.federalreserve.gov/releases/h41/current/
I haven't checked, but I assume that the ECB does the same.
Exactly what the consequences of a central bank being deeply under water are, I don't know. But I can well imagine they might not be pretty.
In other countries and other contexts, it has led to major inflation - the kind that the ECB seems to be paranoid about. Thus you have various countries that stabilize their currency by holding large reserves of dollars or euros and restrict the creation of money to a constant multiple of their reserves.
http://en.wikipedia.org/wiki/Currency_board
So if there is a major default, and everyone is expecting that there will be one from Greece, then it may really be appropriate to recapitalize the ECB.
