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The inflationary consequences of prioritising central bank profits

Author

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  • Gebauer, Stefan
  • Pool, Sebastiaan
  • Schumacher, Julian

Abstract

This paper examines the impact of rising interest rates on central bank profitability. Using a stylized income model, we demonstrate that changes in interest rates in combination with expansive balance sheet policies introduce a cyclical component into the central bank’s profit and loss statement. Ourfindings reveal, however, that while the interplay of such policies may dampen short-term profitability if interest rates rise, they do not undermine a central bank’s financial strength, because higher interest rates also raise the value of future seigniorage income. Using data for the euro area, we quantify the consequences for inflation of setting interest rates aimed at mitigating financial losses, showing that such a strategy would lead to substantially higher inflation rates. Overall, our findings confirm that a central bank’s willingness to accept temporary losses reflects a commitment to price stability, rather than a hindrance. JEL Classification: E31, E43, E52, E58, E63

Suggested Citation

  • Gebauer, Stefan & Pool, Sebastiaan & Schumacher, Julian, 2024. "The inflationary consequences of prioritising central bank profits," Working Paper Series 2985, European Central Bank.
    • Handle: RePEc:ecb:ecbwps:20242985
    Note: 2604030
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    More about this item

    Keywords

    central bank independence; central bank profitability; monetary policy;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy

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