ECB: European Central Bank John-Paul Kivlin Educational use only

1. Where do Euros Come From? ECB: European Central Bank John-Paul Kivlin Educational use only

2. Outline • What is a Central Bank • The ECB • History • Structure • Its purpose • Compare and contrast with the FED

3. Central Banks • Public institution • Issues currency • Regulates the money supply • Controls interest rates • Often oversees commercial banking system

4. Central Banks (cont.) • Acts as lender of last resort • Lend to banking sector during time of crisis • Designed to operate free of political interference

5. History of the ECB

6. History (cont.) • ECB officially took over June 1, 1998 • Now 17 member states of the EU use the Euro as currency

8. Structure • European System of Central Banks (ESCB) • Comprises ECB and national central banks of all EU members (euro or not) • Eurosystem • ECB and national central banks that have adopted the euro • Euro Area • EU countries that have adopted the euro

9. ECB Structure • ECB • Decision making by Governing Council • 6 members of the executive board • Governors of the NCB’s of the 17 euro area countries • Governing Council Responsibilities • Adopt guidelines and ensure performance of tasks • Formulate monetary policy for euro area • Meet twice a month

10. ECB Executive Board • Non-renewable term of 8 years • Removal only by incapacity or serious misconduct • Decided by the Court of Justice of the European Communities • ECB nor NCB allowed to take instructions from any government of an EU state

11. Purpose of the ECB • Manage Europe‘s central currency the Euro • Maintain the euro’s purchasing power • Done to ensure price stability

12. ECB’s Main Tasks • Implementation of monetary policies • Foreign exchange operations • Holding and management of official reserves • Promotion of smooth payment system

13. Monetary Policy • Price stability using Harmonised Index of Consumer Prices (HICP) • Inflation rate at or below 2% • http://www.ecb.int/ecb/educational/pricestab/html/index.en.html

14. Monetary Policy (cont.) • Decisions made by Governing Council • Implemented through: • Open market operations • Standing Facilities • Minimum reserve requirements • ECB exclusive right to authorize banknotes • Member states can issue euro coins, amount must be authorized by ECB 1st

15. Foreign Exchange Operations • Foreign exchange interventions • Sale of foreign currency income • Commercial transactions

16. Reserves Management • Foreign reserves portfolio • Ensure ECB has sufficient liquidity to conduct foreign exchange operations with non-EU currencies • Own funds portfolio • Provides ECB with income covering operating costs and possible losses

17. ECB and the FED • The FED has many primary tasks • The main purpose of the ECB is to maintain price stability. • Other objectives are secondary

18. ECB and the FED • U.S. obtains liquidity through sale of treasury bonds (also uses repo) • European system does not have system-wide bonds, no system wide taxation authority • Instead, member banks (1,000’s) bid for short-term repo contracts • Contracts: 2 weeks to 3 months

19. ECB and the FED • Repo contract or repurchase agreement • Sale of securities with agreement that seller will by back at later date • Repurchase price will be higher than the selling price • This difference or interest sometimes referred to as the repo rate

20. ECB and the FED • Why would the ECB chose such a short term for the repo contracts?

21. ECB and the FED • Short duration allows the continually adjustment of interest rates • When repos come due, banks bid again • An increase of notes at auction increases liquidity in economy • Decrease has opposite effect • Contracts are carried on asset side of ECB • Money is considered the liability of the ECB

22. Auctions • Banks have to prove collateral in form of loans to other entities • Public debt of member states • Private banking securities • EU has stringent membership requirements • Sovereign debt % of GDP • Done to ensure assets offered by member bank are protected from inflation

23. ECB and the FED • Crisis in 2008 revealed some weak sovereign debt • Greece, Portugal, Spain, Ireland • This has impaired the borrowing ability • Not only in 4 members listed • Some securities issued from 4 members held by other members • Hurting liquidity of economy

24. ECB and the FED • ECB has temporarily moved bad debt from weak members balance sheets to ECB’s • This monetization could threaten inflation • Strong member countries endure monetary expansion to save weak members • ECB also has intervened to help market collapse in U.S. in cooperation with FED

25. ECB Today • Considering collective European bond issue • Similar to U.S. Treasury Bills • Would need collective guarantee of member states solvency • Germany has resisted the idea • Other analysis shows “Sickness of euro” due to link between sovereign debt and NBS

26. References • Eurpean Central Bank. ECB: European Central Bank Home Page. • Wikipedia. "Federal Reserve System." Wikipedia, the Free Encyclopedia. • http://www.new-ecb-premises.com/home_frame.html