Bundesbank burns through more than €20bn to cover huge losses

The German central bank has burnt through the entire €19.2bn of provisions it built up to cover financial risks as well as most of its €3.1bn reserves to absorb the huge losses it made last year due to higher interest costs.

The Bundesbank warned it expected to make another “significant” loss this year, exceeding the €700mn of remaining reserves, as it reported on Friday that it would have made a €21.6bn loss had it not drawn down the funds set aside to cover financial risks.

The sharp downturn in the German central bank’s performance is embarrassing for one of the country’s most respected institutions, especially as it has been aggravated by the European Central Bank’s vast bond-buying programme, which Bundesbank officials opposed.

The losses stem from a divergence between the sharply higher interest rate the Bundesbank pays to commercial banks on their deposits and the returns from its vast portfolio of government bonds, many of which have locked in low or even negative rates for many years.

Last year, the German audit office said the Bundesbank might require a state bailout to cover its losses. But the central bank’s president Joachim Nagel said it planned to carry forward any losses to be offset by future profits, as it did the last time it made losses in the 1970s. “The Bundesbank’s balance sheet is solid,” he said.

Nagel said the central bank “can bear the financial burdens” as it had “considerable assets that are significantly larger than its liabilities”. Those include €200bn of valuation reserves, accumulated from rises in the value assets it owns — mainly gold.

The ECB on Thursday unveiled a €1.3bn annual loss, its first for almost two decades, reflecting the impact of higher interest rates paid to national central banks.

The ECB also said it expected to make further losses after using up its remaining €6.6bn of provisions, but that any losses would also be carried forward against future profits, avoiding any need for a recapitalisation.

Morgan Stanley economists on Friday estimated the ECB and national central banks of the eurozone would make combined losses of €62.2bn this year, up from €56.6bn last year.

Jens Eisenschmidt, chief European economist, predicted the losses would fall to €12.3bn next year after the ECB cuts rates and forecast it was “unlikely” any central banks would need to raise money from governments.

But the Bundesbank’s losses are likely to be seized on by critics of the ECB’s recent massive bond purchases, with one case against this still pending in the German constitutional court.

The deterioration in the Bundesbank’s financial performance will also hit the German budget as the central bank stopped paying dividends to the government last year, depriving Berlin of an income stream amounting to €22bn in the past decade.

Nagel said that because the losses would absorb future profits it did not expect to distribute any dividends “for a long period of time”. He predicted the cumulative losses of the Bundesbank in the coming years would total “in the mid-range of two-digit billions”.

Most analysts think it should make little difference whether central banks are profitable.

“It doesn’t really matter,” said Erik Nielsen, chief economics adviser at UniCredit. The potential threat to central bank independence from losses was “weak”, he said. “If a central bank asks for capital, it’s its own decision to do so. There is no cliff edge beyond which it cannot operate,” he said.

“This is the downside of the ECB’s unconventional monetary policy,” said Lars Feld, an adviser to the German finance minister. “I do not think that there is any problem regarding the losses other than the fiscal effect for the federal government.”

Eurozone inflation fell to 2.8 per cent in January from a record high of 10.6 per cent in October 2022. Nagel said it was on track to fall to the ECB’s 2 per cent target, but he warned: “Even though the temptation may be great, it is too early to cut interest rates.”