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Seigniorage – the good old fashioned way!
This post was originally published on Bawerk.net. You may also follow us on twitter @EBawerk
When the Europeans published their upbeat retail sale report last week we asked a rather rhetorical question; where do you think all those ECB-money ends up?
Given Draghi`s broken monetary transmission mechanism is should come as no surprise that most of it ends up in the north.
As simple chart depicting a rebased retail sale series should help substantiate that claim!
Source: Eurostat, own calculations
In the new normal it pays to have a relatively large financial sector; unless you are Cyprus of course. More precisely; it pays to have a relatively large financial sector that caters to the elite!
And if it something tiny Luxembourg have an abundance of, it is financial service industries. The next chart breaks the Luxembourgian economy down to its components. As is obviously clear, the financial sector with its support functions have become a behemoth within a Leviathan.
The incredible growth of the financial sector has led to asset accumulation in excess of 8 times GDC! While this this is down from the heydays witnessed prior to the Lehman collapse, it is still among the worlds most bloated financial sectors.
Source: Statec, European Central Bank (ECB), own calculations
Now, as we have shown extensively on these pages, the ECB is more or less designed to bail-out these too-big-to-fail institutions. However, there is one thing that we have until now neglected to mention, namely the issuance of banknotes; money printing in the literal sense of the word.
Within the euro system national central banks have been allocated a share of total currency outstanding as given by the “banknote allocation key” published by the ECB.
Out of the total, 8 per cent is a liability of the ECB itself, while the remaining 92 per cent outstanding is liabilities of the different national central banks.
For example, the National Bank of Greece has been allocated €22bn of the banknotes outstanding, while the mighty Deutsche Bundesbank has an allocation of €211bn, out of a total of €846bn.
However, the actual issuance does not necessarily correspond to the allocated amounts. If a national central bank has issued more than the allocated quota, it will accumulate a liability on its balance sheet called “Intra-euro system liability related to euro banknotes”. These liabilities will be counted against assets on central banks with issuance at quota or less.
At this point in our story we can almost feel the frustration and anger building inside our northern European readers. “Yet another way the euro system help siphon of my hard earned money to profligate southerners!”
But that is NOT the case! Excessive note issuance is (almost) inversely related to sovereign bond yields! The deeper a country has sunk into the euro-quagmire, the less the NCB has resorted to excessive note issuance!
How come? We expect it to be demand driven and related to the deposit flight experienced by the southern European banking system. As money moved from the south to the north demand for cash increased in the north!
Source: European Central Bank (ECB), own calculations
That said, this can only explain why excessive note issuance has continued to grow in the period after 2008. But as the chart below show, note issuance above allocated quota has been going on since the start of the euro!
Germany has issued a whopping €211bn in excess of the allocated €210bn, or 100 per cent of quota. Still, no one beats Luxembourg! Our friends with financial acumen know the game of money printing better than anyone else. Per July 2013 the Banque central du Luxembourg reported more than €80bn in excessive note issuance, or 4,136 per cent above the stated quota of €1.9bn!
Source: various national central banks, own calculations
Source: various national central banks, own calculations
While many people, rightly so, focus a lot of attention on the TARGET2 bail-out, few adjust these numbers for the note issuance.
For example, the TARGET2 claim accumulated on the balance sheet of the Bundesbank has come down to €577bn from a peak of €751bn as a result of the OMT-promise. As the TARGET2 claim came down, note issuance kept rising so the net claim actually fell much more dramatically.
Source: Bundesbank, own calculations
All this make the euro-economy an oddity among peers. It is far more cash-based than, say the US and UK
Source: Eurostat, various NCBs, Bureau of Economic Analysis (BEA), Federal Reserve (Fed), Bank of England (BoE), Cabinet Office (CAO), Bank of Japan (BoJ), own calculations
Concluding remarks
The euro system has many peculiarities as we have shown extensively on our blog. To a large extent the system can be analyzed as a “tragedy of the commons” problem. As is well known in economics, when a shared resource can be exploited in full by individuals with no exclusive property right, the resource will be overexploited.
The euro is a shared resource. Every national central bank can exploit it to the fullest while the cost will be shared by every member state.
The incentive in such a system is obviously rigged to its disfavor and it will eventually break down.
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That system is really complicated. It must require hundreds of thousands of bureaucrats to manage it.
"All this make the euro-economy an oddity among peers. It is far more cash-based than, say the US and UK"
I nearly missed this gem. yes, the eurozone economy is far more cash-based. and this is, among other things, a sign for a way bigger "submerged economy"
If being a financial parasite makes one elite ... and elitism is most evidenced by consumerism then, I think that I will pass.
"The euro is a shared resource. Every national central bank can exploit it to the fullest while the cost will be shared by every member state."
this argument is missing a substantiation. but the article seems only mired to point to this "conclusion":
"The incentive in such a system is obviously rigged to its disfavor and it will eventually break down."
Eugen, I find the focus on the retail sales in Luxembourg a bit disingenuos. the whole country has half a million inhabitants and is less than 1'000 square miles
I was on my way from northern France to Trier, in Germany not even four weeks ago. guess what? I passed by and shopped a bit. place full of other europeans doing the same. but I'm not a Luxembourger. guess what? I went to an ATM and took some EUR cash out of it. oh, the horror!
further, the whole Target2 business is quite misunderstood, and you don't seem to be keen on really explaining it: I have a Greek friend who lately closed shop in Greece and retired in Germany. he closed his bank account in Greece and opened one in Germany. guess what? that money of his is also part of the T2 "imbalance". what happens when a New Yorker retires to Florida, btw?
de facto the whole T2 accounting is just a statistic, unless a NCB wants to leave the EuroSystem. now, if the dozen FEDs would make a similar statistic, would anybody even look at it?
yes, we have a lot of eurozone statistics broken down per nation. other great currency and trade zones like the US and China don't. because they don't even care. after all, their parts don't have the option of leaving. yet you can read too much in those statistics
if you'd try to explain a Californian that his account is a NY-one because his bank's headquarter happens to be based in NY you'd probably find out how silly part of this argumentation is
Sir,
We have explained the Target2-system in details here: http://bawerk.net/?p=146. In addition, it is worth pointing out that the Fed-system requires annual settlement of intra-US trade deficits and surplus. This mechanism is not built into the euro and Target2 system. In other words, Target2 allows trade to continue despite the fact that no one is willing to fund said trade.
Regarding the retail statistics, look at the trend break in 2010, which coincides with the emergence of the euro crisis.
Best regards
Bawerk
The TARGET2 statistic is meaningful because it is plausible that several EU states will either leave or be ejected from the Eurosystem. The chance of any US State leaving the union within the next decade is zero.
let's assume that it is indeed plausible - though being kicked out is still against the treaties. and then? nobody mentions the very interesting effects of such a move, which btw are the same which would be felt if Scotland would leave it's currency union with England
and are not that dissimilar with what most CBs have with their FX holdings in Dollars. because that's what those T2 balances would become: FX reserves (though in currency, not in sovereign bonds)
and also note that any country leaving would probably plan a South-America style "corralito", which would have a further FX reserves impact
Can't wait for that sucker to go down!
OT: good news out of Germany: http://www.bloomberg.com/news/2013-10-08/german-factory-orders-unexpecte... - crash in eurozone orders, drop in RoW orders.
From the BBG article:
““Fundamentally it is going to be a slow recovery even if Germany benefits a bit more than others from global trade,” said Aline Schuiling, an economist at ABN Amro Bank NV in Amsterdam. “While there may be bumps in the road from things like the U.S. government shutdown, it’s not going to derail the economy. We’re heading toward an acceleration in global growth in the second half of this year.”
ABN Amro… their word and advice is as good as (their) gold.
http://www.examiner.com/article/largest-dutch-bank-defaults-on-physical-gold-deliveries-to-customers