Central Bank Financial Independence and Monetary Policy Performance

Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References

Bernhard Bartels JoGu Mainz Barry Eichengreen UC Berkeley Beatrice Weder di Mauro INSEAD Singapore

Lecture Series WS 2016/17

January 19, 2017

1 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Table of Contents

1 Motivation

2 First Project - Central Bank Ownership

3 Data & Empirical Strategy

4 Results

5 Policy Implications

2 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References The SNB ”unpeggs” the Swiss Franc

3 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Motivation behind the decision to ”unpegg”?

Domestic economy is better able to deal with the Swiss Franc appreciation than in 2011 (SNB statement)

Restoration of an ”equilibrium” exchange rate after recognition of long-term Euro weakness (SNB statement)

Alternative Hypothesis: SNB is concerned about future losses on its foreign exchange holdings

4 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Euro Position on the SNB Balance Sheet 250 200 150 100 Euro Position, in bn. CHF 50 0 2000 2005 2010 2015 Year Source: SNB Annual Reports 5 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References SNB Net Proﬁt 40 20 0 Net Profit, in bn. CHF -20 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Source: SNB Annual Reports 6 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Why should Central Banks (CB) care about losses?

ECB: Declining or even negative capital of a member bank (NCB) ”may aﬀect the credibility of the Eurosystem’s monetary policy”. (ECB Opinion, September 2012)

Legal and functional independence may be jeopardized with insuﬃcient ﬁnancial independence

CBs are concerned about future shareholder intervention to secure the central bank’s proﬁtability

7 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Does CB ﬁnancial independence aﬀect CB policy?

Does a CB allow for more inﬂation in the case of higher losses/lower than average proﬁts?

Do CBs actively intervene on ﬁnancial markets to improve their ﬁnancial position?

Do central banks with private shareholders follow other (ﬁnancial) objectives than those under public ownership?

8 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Shareholders of the SNB

In 2015, 52% of the shares are held by Cantons and Cantonal Banks

The remainder of shares is held by private shareholders (major private shareholder is the German entrepreneur Theo Siegert (6.6% of the share capital))

Question: Are central banks with private shares more inclined to prevent losses?

9 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Conﬂict of Interest?

CBs with private shares face a conﬂict of interest:

In 2016, Senator Rand Paul introduced a bill compelling the Fed to publish its balance sheet activities (narrowly rejected by the Senate)

Private shareholders of the Turkish Central Bank recently protested against low dividends distributed despite high reported proﬁts

Private shareholders of the National Bank of Belgium brought a suit against the NBB claiming equal treatment of (public and private) shareholders regarding dividend payments (rejected by the Court)

10 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Conﬂict of Interest?

CBs with private shares do not face a conﬂict of interest:

Central banks with public shareholders may be subject to similar pressure from public owners

Central Bank statutes directly limit voting rights, remuneration and eligibility of private corporations or individuals to hold shares

Likewise, central banks are subject to other governance rules, which may prevent private shareholders from voting to inﬂate reported proﬁts

11 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Central banks with Private Shares

Austria (until 2013), Belgium, Greece, Italy, Japan, South Africa (not in our sample), Switzerland, Turkey, United States

We use a time-invariant dummy variable = 1 if a central bank has private shareholders

Distinction between capital-related and proﬁt-related dividend payments to private shareholders

12 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Research Questions

Are CBs with private shares more proﬁtable than CBs under public ownership?

Are transfers to governments smaller among CBs with private shares than among CBs under public ownership?

Is CB ownership related to other/stricter governance rules?

Do governance rules aﬀect a CB’s ﬁnancial position?

13 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References How to measure Financial Independence?

Governance Rules: 1 How many reserves is a central bank allowed to hold?

2 Who are the shareholders of central banks?

3 Is the central bank required to pay taxes?

4 How much accounting ﬂexibility does the central bank enjoy?

14 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References How to measure Financial Independence?

Balance Sheet Variables 1 How many reserves does the central bank hold?

2 How proﬁtable is the central banks?

3 What share of proﬁts does the central bank pay to shareholders?

15 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Example: CB Discretion on Proﬁt Distribution

How much proﬁts have to be transferred to the public shareholder?

1 Distribution is subject to ﬁxed reserve requirements: either a nominal or a relative upper limit (10)

2 Distribution is subject to a smoothing mechanism: the amount of distribution depends on the past years’ proﬁts (7)

3 Distribution is subject to ﬂexible reserve requirements (18)

16 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Dividends to Private Shareholders (1993-2014)

17 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References CB Financial Strength (1993-2014)

18 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Sample Description I

Unbalanced panel of 35 central banks (OECD plus ECB) observed between 14-22 years:

Dependent Variables: CB proﬁts, transfers, loss-absorbing capacity (LAC)

π - CB Profit (distributable profit plus income tax) θ - CB Transfer (to governments) γ - Dummy Variable for Private Shares ω - Dummy Variable for other Governance Variable x 0 - vector of balance sheet and macroeconomic controls ρ - Year fixed effects δ - Central Bank fixed effects

19 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Sample Description II

(1) (2) (3) Observations Mean St. Dev.

Net Proﬁt (% of assets) 577 1.26 3.11

Gov. Transfer (% of assets) 577 1.08 1.94

Loss-absorbing Capacity (% of assets) 575 10.17 12.19

Banknotes and Coins (% of assets) 577 32.87 19.71

Economic Growth (% change p.a.) 577 6.26 10.61

Depreciation of SDR rate (% change p.a.) 577 -0.20 6.9

Inﬂation (% change p.a.) 577 3.11 4.5

20 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Set of Regressions

Proﬁts and Private Ownership:

0 πi,t = α + β1 ∗ γi + β2 ∗ xi,t + ρt + i,t (1)

Transfers, Proﬁts and Private Ownership:

0 θi,t = α + β1 ∗ πi,t + β2 ∗ (πi,t ∗ γi ) + β3 ∗ xi,t + ρt + δi + i,t (2)

Transfer, Proﬁts, Governance and Private Ownership:

0 θi,t = α+β1 ∗πi,t +β2 ∗(πi,t ∗γi )+β3 ∗(πi,t ∗γi ∗ωi )+β4 ∗xi,t +ρt +δi +i,t (3)

We repeat the same set of regressions for the loss-absorbing capacity substituted for proﬁts!

21 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results I

Table 1: Private Shareholders and CB Finances (1) (2) (3) (4) (5) (6) Net Proﬁt Loss-abs. cap. Transfer Transfer Transfer Transfer

Private Shares 0.000988 0.0512 (0.29) (1.17)

Net Proﬁt 0.236∗∗ 0.202∗ (2.85) (2.13)

Net Proﬁt x Private Shares 0.0554 0.0574 (0.40) (0.34)

Loss-abs. cap. 0.0311 0.0317∗ (2.01) (2.19)

Loss-abs. cap. x Private Shares -0.0237 -0.00256 (-1.19) (-0.07)

Constant 0.0166 0.237 -0.00580 -0.0206 -0.00719 -0.0233 (1.77) (1.50) (-0.69) (-1.35) (-0.69) (-1.56) Observations 577 575 577 577 575 575 Linear Comb. 0.291 0.260 0.00737 0.0291 t-statistics 2.45 1.92 0.49 0.99 Adj. R-sq. 0.223 0.258 0.530 0.624 0.439 0.551 Year FE Yes Yes Yes Yes Yes Yes Central Bank FE No No No Yes No Yes t statistics in parentheses, s.e. clustered on CB level ∗ p < 0.05, ∗∗ p < 0.01, ∗∗∗ p < 0.001

22 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results I cont.

Table 2: Private Shareholders and CB Finances (additional controls)

(1) (2) (3) (4) (5) (6) Net Proﬁt Loss-abs. cap. Transfer Transfer Transfer Transfer

Depreciation SDR -0.00516 -0.261 -0.00505 -0.0216 -0.00570 -0.0246 (-0.08) (-1.19) (-0.19) (-0.82) (-0.18) (-0.86)

Banknotes 0.0386∗∗∗ -0.0233 0.0249∗∗∗ 0.0231∗∗ 0.0345∗∗∗ 0.0287∗∗ (7.79) (-0.27) (5.18) (2.79) (7.37) (3.27)

Growth -0.103 -0.387 -0.00960 -0.0282 -0.0308 -0.0477 (-1.97) (-2.01) (-0.40) (-1.14) (-1.04) (-1.54)

Swiss Gold Sale 2004 0.169∗∗∗ 0.145∗∗∗ 0.151∗∗∗ 0.194∗∗∗ 0.191∗∗∗ (39.44) (7.02) (7.07) (32.48) (62.70)

Inﬂation 0.00111 0.00256 -0.0000134 0.000151 0.000209 0.000296 (1.93) (1.58) (-0.05) (0.52) (0.65) (0.98)

Flexible X-Rate 0.000259 -0.0250 0.00134 0.00564 0.00217 0.00683 (0.18) (-1.64) (1.31) (1.37) (1.60) (1.61)

Constant 0.0166 0.237 -0.00580 -0.0206 -0.00719 -0.0233 (1.77) (1.50) (-0.69) (-1.35) (-0.69) (-1.56)

23 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results II

Table 3: Government Transfers, Private Ownership and Governance (1)

(1) (2) (3) (4) Transfer Transfer Transfer Transfer

Net Proﬁt 0.359∗∗∗ 0.129∗ (4.52) (2.05)

CB Discretion x Net Proﬁt -0.322∗∗ (-3.39)

CB Discretion x Net Proﬁt x Priv. Shares 0.0110∗∗∗ (5.71)

Gov. Discretion x Net Proﬁt 0.408∗∗∗ (6.22)

Gov. Discretion x Net Proﬁt x Priv. Shares -0.00279 (-0.75)

Observations 577 577 575 575 Linear Comb. 0.0476 0.534 0.0169 0.113 t-statistics 0.89 20.61 1.39 2.59 Adj. R-sq. 0.678 0.680 0.557 0.557 Year FE Yes Yes Yes Yes Central Bank FE Yes Yes Yes Yes t statistics in parentheses, s.e. clustered on CB level, other controls included ∗ p < 0.05, ∗∗ p < 0.01, ∗∗∗ p < 0.001

24 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results II cont.

Table 4: Government Transfers, Private Ownership and Governance (1)

(1) (2) (3) (4) Transfer Transfer Transfer Transfer

Loss-abs. cap. 0.0617∗ 0.0211 (2.38) (1.72)

CB Discretion x Loss-abs. Cap. -0.0546 (-1.85)

CB Discretion x Loss-abs. Cap. x Priv. Shares 0.00980∗∗∗ (4.81)

Gov. Discretion x Loss-abs. Cap. 0.0946∗ (2.14)

Gov. Discretion x Loss-abs. Cap. x Priv. Shares -0.00256 (-0.32)

Constant -0.0122 -0.0179 -0.0113 -0.0185 (-1.06) (-1.91) (-1.06) (-1.93) Observations 577 577 575 575 Linear Comb. 0.0476 0.534 0.0169 0.113 t-statistics 0.89 20.61 1.39 2.59 Adj. R-sq. 0.678 0.680 0.557 0.557 Year FE Yes Yes Yes Yes Central Bank FE Yes Yes Yes Yes t statistics in parentheses, s.e. clustered on CB level, other controls included ∗ p < 0.05, ∗∗ p < 0.01, ∗∗∗ p < 0.001

25 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results III

Table 5: Government Transfers, Private Ownership and Governance (2)

(1) (2) (3) (4) (5) (6) Transfer Transfer Transfer Transfer Transfer Transfer

Net Proﬁt 0.288∗∗ 0.131∗ 0.155 (3.25) (2.07) (1.54)

Recap. Rule x Net Proﬁt -0.336∗∗ (-3.42)

Recap. Rule x Net Proﬁt x Priv. Shares 0.00148 (0.56)

Tax Payer x Net Proﬁt 0.410∗∗∗ (5.77)

Tax Payer x Net Proﬁt x Priv. Shares -0.000811 (-0.56)

Flex Provision x Net Proﬁt 0.112 (0.62)

Flex Provision x Net Proﬁt x Priv. Shares -0.0230 (-0.12)

Constant -0.0100 -0.000218 -0.00351 -0.00689 -0.00554 -0.00962 (-0.88) (-0.02) (-0.29) (-0.58) (-0.51) (-0.84) Observations 577 577 575 575 575 573 Linear Comb. -0.0468 0.541 0.244 -0.00502 0.0415 0.0269 t-statistics -1.02 18.60 1.83 -0.49 1.48 0.89 Adj. R-sq. 0.667 0.681 0.627 0.552 0.549 0.550 Year FE Yes Yes Yes Yes Yes Yes Central Bank FE Yes Yes Yes Yes Yes Yes t statistics in parentheses, s.e. clustered on CB level, other controls included ∗ p < 0.05, ∗∗ p < 0.01, ∗∗∗ p < 0.001

26 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Regression Results III

Table 6: Government Transfers, Private Ownership and Governance (2)

(1) (2) (3) (4) (5) (6) Transfer Transfer Transfer Transfer Transfer Transfer

Loss-abs. cap. 0.0384∗ 0.0263 0.0422 (2.43) (1.72) (1.90)

Recap. Rule x Loss-abs. Cap. -0.0425 (-1.99)

Recap. Rule x Loss-abs. Cap. x Priv. Shares -0.000954 (-0.23)

Tax Payer x Loss-abs. Cap. 0.00724 (0.20)

Tax Payer x Loss-abs. Cap. x Priv. Shares 0.00798∗∗ (2.89)

Flex Provision x Loss-abs. Cap. -0.0268 (-0.87)

Flex Provision x Loss-abs. Cap. x Priv. Shares 0.0115 (0.32)

27 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Summary of Results

We ﬁnd no impact of ownership on central bank ﬁnancial stability

Except for tax requirements, CBs with private shares are not subject to stricter governance rules than public CBs

Instead of ownership, we find that other governance rules appear to influence CB financial stability

28 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Should Private Ownership among CBs be abolished?

We find that neither governance arrangements nor financial behavior of central banks differ according to ownership

It may still be that CBs with private shareholders diﬀer in their supervisory functions or in their interest setting behavior

Central Banks should be given enough discretion to decide on profit distribution - profit-sharing rules seem to impact on financial strength

29 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Related Literature

Hall and Reis (2015):

Loss-scenarios for Central Bank Balance Sheets after Unconventional Monetary Policy measures

Archer and Moser-Boehm (2013); Bunea, K., Merriman, and Studener (2016):

Impact of CB Governance on CB Financial Stability (Survey-based)

Koetter, Roszbach, and Spagnolo (2014):

Impact of CB Governance on Banking System Stability

Klueh and Stella (2008); Adler, Castro, and Tovar (2016): Impact of CB Capital on Monetary Policy Performance

30 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References References

Adler, G., P. Castro, and C. E. Tovar (2016): “Does central bank capital matter for monetary policy?,” Open Economies Review, 27(1), 183–205. Archer, D., and P. Moser-Boehm (2013): “Central bank ﬁnances,” BIS Papers, No 71. Bunea, D., P. K., N. Merriman, and W. Studener (2016): “Proﬁt Distribution and Loss Coverage Rules for Central Banks,” ECB Occasional Paper series, No 169. Hall, R. E., and R. Reis (2015): “Maintaining Central-Bank Financial Stability under New-Style Central Banking,” NBER Working Paper Series, 21173. Klueh, U. H., and P. Stella (2008): “Central Bank Financial Strength and Policy Performance: An Econometric Evaluation,” IMF Working Papers, pp. 1–45. Koetter, M., K. Roszbach, and G. Spagnolo (2014): “Financial Stability and Central Bank Governance,” International Journal of Central Banking.

31 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References CB Transfers to the Treasury (1993-2014) .04 .03 .02 .01 as % of CB assets 0 -.01 nl uk usa italy chile israel spain japan korea turkey france finland ireland austria poland greece mexico iceland norway estonia canada sweden belgium slovakia hungary portugal slovenia australia denmark germany euroarea czechrep switzerland luxembourg newzealand 32 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References CB Proﬁts (1993-2014) .04 .02 0 as % of CB assets -.02 nl uk usa italy chile israel spain japan korea turkey france finland ireland austria poland greece mexico iceland norway estonia canada sweden belgium slovakia hungary portugal slovenia australia denmark germany euroarea czechrep switzerland luxembourg newzealand 33 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References CB Loss-absorbing Capacity (1993-2014) .3 .2 .1 as % of CB assets 0 -.1 nl uk usa italy chile israel spain japan korea turkey france finland ireland austria poland greece mexico iceland norway estonia canada sweden belgium slovakia portugal hungary slovenia australia germany denmark euroarea czechrep switzerland luxembourg newzealand 34 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Deﬁnition of Central Bank Financial Independence (CBFI)?

Capital (Equity, Reserves, Revaluation Accounts, and Risk Provision)

Governance (Proﬁt Sharing, Reserve Requirements, Accounting rules, Ownership)

Tasks beneath Price Stability (Macroeconomic Stability, Banking Supervision, Exchange Rate Policy, Management of Government Funds)

35 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References Does CBFI matter?

ECB: Declining or even negative capital of a member bank (NCB) ”may aﬀect the credibility of the Eurosystem’s monetary policy”. (ECB Opinion, September 2012)

Legal and functional independence may be jeopardized with insuﬃcient ﬁnancial independence (credibility argument)

Financial transactions of a weakly capitalized CB may lead to market distortions (not necessarily violating the CB’s mandate)

Earnings-generating capacity may decline due to cash alternatives (e-money)

36 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References How realistic are situations of weak CBFI?

Chile, the Czech and Slovak Republic, Israel and Mexico have experienced prolonged periods of losses or negative capital

The National Bank of Switzerland (SNB) has experienced a large loss in 2015 due to the appreciation of the Swiss Franc against the Euro (exchange rate risk)

CBs assets have a different risk profile since the onset of the financial crisis (credit risk)

The Fed and the ECB face a maturity mismatch when they exit from expansionary monetary policy (interest rate risk)

37 / 38 Motivation First Project - Central Bank Ownership Data & Empirical Strategy Results Policy Implications References CB Transfers to Governments (1993-2014)

38 / 38