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The profitability of the Bundesbank in light of the ECB’s unconventional monetary policy



Since mid-2014, the Eurosystem (which consists of the European Central Bank and the national central banks of the member states of the eurozone) has been implementing unprecedented unconventional monetary policies (a massive asset purchase programme, negative interest rates and very long-term loans to banks), which has been regularly criticised by members of the Bundesbank.

The Bundesbank’s profitability has eroded over the years and is now being crippled by the PSPP. On the other hand, the lowering of the deposit facility rate is expected to improve the Bundesbank's income statement. Even if the Bundesbank, like all the other Eurosystem national central banks, does not formulate its policy with the express aim of profitability, we can well imagine that an analysis of the impacts of the main unconventional policies on its income statement could have influenced it in terms of its broad policy objectives.




Since mid-2014, the Eurosystem (which consists of the Eurozone’s national central banks and the ECB) has been implementing unprecedented unconventional monetary policies (a massive asset purchase programme, negative interest rates and very long-term loans to banks). These decisions, on a scale that has not been seen before, raise questions about the direct costs and benefits they are creating for eurozone central banks. The recurring criticism of the ECB’s unconventional policies by members of the Bundesbank has led us to look at the bank’s annual reports and in particular on its profitability.

Bundesbank profits are on a steady downtrend

Chart 1 shows the annual net profit and loss for the eurozone’s four largest national central banks (Bundesbank, Banque de France, Banca d'Italia and Banco de España). We can see that they have all enjoyed positive P&L for the past ten years. That said, the amounts at stake are unimpressive: for 2014, the combined net profit of the four largest national central banks was only €10.5 bn (so far, we only have the figures from the Bundesbank for 2015). Moreover, the net profit of the central banks should be compared to the size of their balance sheets, which have ballooned in recent years as a result of the launch of an array of asset purchase programmes and long-term loans to banks (LTROs followed by the TLTROs). At the end of 2015, the Bundesbank’s balance sheet size stood at €1012 bn while its net profit accounted for €3.2 bn, i.e. only 0.3% of its total assets.

Like any bank, most of the central banks’ profits are derived from net interest margin, that is, the difference between interest income and interest expense. In Chart 2, we show net interest margin as a percentage of average assets. In 2015, the Bundesbank’s net interest margin was at its lowest level for more than 10 years. The net interest margin is even converging toward zero, which is not quite the case
for the French, Italian and Spanish central banks. It would appear that profitability has increasingly become an issue for the Bundesbank. The following table presents some elements of the Bundesbank’s Profit and Loss Account for 2015.



A significant share of the Bundesbank's income comes from its Securities Market Programme

A detailed analysis of the Bundesbank’s interest income for 2015 reveals that nearly half comes from holding securities purchased under its Securities Market Programme (SMP), that is, sovereign bonds of the peripheral countries (Spain, Greece, Ireland, Italy and Portugal). Without the SMP, the Bundesbank’s net interest margin would have been even lower. The irony of the situation is that Jens Weidmann, the president of the Bundesbank, said in December 2011 that he was not “a fan of the SMP”. Furthermore, we note that the income from SMP securities has been steadily declining over the years and continues to fall as the securities gradually approach maturity (at the end of 2015, the Bundesbank still held €28 bn).

It is particularly striking to note that interest income derived from PSPP securities (holdings of €104 bn at the end of 2015) were negative for the 2015 income statement, standing at ‑€11 million. The Bundesbank earned €39 million from purchased securities with a positive yield-to-maturity and lost €50 million on purchased securities with a negative yield to maturity. Under the PSPP, the Bundesbank’s balance sheet is swelling with huge amounts of securities that are costing it money. Finally, the 2015 decision not to share the risks linked to the PSPP (only 20% of the risks linked to the PSPP are shared, see Box) is costing the Bundesbank quite a bit of money. Presumably, the PSPP is going to cost it even more because the German yield curve for maturities up to around eight years has been in negative territory since the beginning of 2016. We can easily understand the Bundesbank’s reluctance to accelerate QE asset purchases from €60 bn to €80 bn per month, which was decided on 10 March: according to our calculations, the Bundesbank’s PSPP purchases will increase from nearly €125 bn to €170 bn per year. Assuming that the ECB's QE programme is extended beyond March 2017, a shift in the structure of PSPP purchases away from German securities to the sovereign securities of other countries (France, Italy and Spain) would have a positive effect on the Bundesbank’s P&L account. However, Jens Weidmann has stated on several different occasions that the pooling of the risks related to sovereign bonds holdings would make sense only if budget oversight by the European authorities were increased.
On the other hand, the cut in the deposit facility rate is expected to improve the Bundesbank's income statement. The Bundesbank earned €248 million from negative deposit facility rates in 2015 and this income is increasing not only due to a -0.40% deposit facility rate but to the trend growth of German banks’ excess reserves, which have been rising by an average of €11 bn each month since the launch of the PSPP. Assuming that this trend continues in 2016 and that the deposit facility rate is maintained at -0.40%, the Bundesbank could earn €1 bn in 2016 from negative deposit facility rates. Obviously, European central bankers are aware that continuing to lower the deposit facility rate is likely to create an overall profitability problem for the whole financial community (banks and insurance companies). Furthermore, allowing PSPP purchases at yields lower than the deposit facility rate would demonstrably exacerbate the Bundesbank’s profitability problems.


Even if the Bundesbank, like all the other Eurosystem national central banks, does not formulate its policy with the express aim of profitability, we can well imagine that an analysis of the impacts of the main unconventional policies on its income statement could have influenced it in terms of its broad policy objectives. An analysis of the Bundesbank’s balance sheet and P&L accounts helps us understand why its president, Jens Weidman, recently reiterated his opposition to the PSPP.


The sharing of Eurosystem asset purchasing programme risks

Since 2009, the Eurosystem has introduced a series of asset purchase programmes: three covered bond asset purchase programmes (CBPP1, CBPP2 and CBPP3), one ABS purchase programme (ABSPP), two sovereign bond purchase programmes (SMP and PSPP) and soon a corporate bond purchase programme (CSPP). Under these programmes, the vast majority of assets are purchased by national central banks and only to a lesser extent by the ECB (for instance, at the end of 2015 the ECB held about 8% of the purchases made by the Eurosystem under the CBPP, SMP and PSPP asset purchase programmes). That said, the fact that the securities were mostly purchased by national central banks provides no indication in and of itself on the sharing of risks or the accounting valuation.

While the risks associated with the SMP and CBPP3 are fully shared among the national central banks, the risks linked to CBPP1 and CBPP2 securities are assumed individually by each national central bank. The risks under the CBPP1 and CBPP2 programmes are not shared because the selection criteria were not harmonised by the Eurosystem for these programmes. With regard to the PSPP, only 20% of the risks under the programme are shared (purchases of sovereign bonds made directly by the ECB and purchases of the bonds issued by supranational institutions made by national central banks). As Mario Draghi explained in January 2015, it is first and foremost the size of the PSPP, the Eurosystem’s most ambitious asset purchase programme, that led the governors to opt for partially abandoning risk sharing. It is very likely that the risks related to the purchases made under the CSPP will be fully shared as we expect the amplitude of this programme to be limited.

How are purchased securities viewed from an accounting standpoint?

Since the debt instruments purchased as part of monetary policy operations (the three CBPP, the SMP, the ABSPP, the PSPP and soon the CSPP) are designed to be held until maturity, the Governing Council determined that they would be measured at amortised cost and subject to impairment and that therefore they would not be subject to mark-tomarket revaluation. Therefore, there are no unrealised capital gains or losses recorded in the revaluation account. Portfolios containing these securities are therefore not exposed to interest rate risk arising out of market value.

As far as bonds are concerned, the P&L accounts take account of the coupons received but also of the amortization of the difference the purchase value and the face value. This is one of the reasons why the PSPP’s contribution to the Bundesbank’s P&L was negative for 2015.





























Under the PSPP, the Bundesbank’s balance
sheet is swelling with huge amounts of securities that are costing it money






The lowering of the deposit facility rate is expected to improve the Bundesbank's income statement




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DRUT Bastien , Fixed Income and FX Strategy
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The profitability of the Bundesbank in light of the ECB’s unconventional monetary policy
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