Central Bank Losses and Economic Convergence

Abstract

This paper discusses the issue of central bank losses, developing a framework for assessing the ability of a central bank to keep its balance sheet sustainable without having to default on its policy objectives. Compared to the earlier literature, it analyses in more depth the consequences of economic convergence for the evolution of the central bank’s balance sheet and the important role played in this process by the risk premium and equilibrium real exchange rate appreciation. A combination of a closed-form comparative-static analysis and numerical solutions of the future evolution of the central bank’s own capital is used. Applying the framework to the Czech National Bank’s case, the paper concludes that the CNB should be able to repay its accumulated loss in about 15 years without any transfer from public budgets.Balance sheet, central bank, economic convergence, monetary policy, real appreciation, risk premium, seigniorage, transition.