TARGET2 Unlimited: Monetary Policy Implications of Asymmetric Liquidity Management within the Euro Area

15 Pages Posted: 5 Jul 2011

See all articles by Jose Abad

Jose Abad

Institute for Economic Policy - University of Leipzig

Axel Loeffler

Deutsche Bundesbank

Holger Zemanek

University of Leipzig - Institute for Economic Policy

Date Written: June 30, 2011

Abstract

This paper analyses the implications of a continued divergence of TARGET2 balances for monetary policy in the euro area. The accumulation of TARGET2 claims (liabilities) would make ECB’s liquidity management asymmetric once the TARGET2 claims in core countries have crowded out central bank credit in those regions. Then while providing scarce liquidity to banks in countries with TARGET2 liabilities, the ECB will need to absorb excess liquidity in countries with TARGET2 claims. We discuss three alternatives and its implications to absorb excess liquidity in core regions: (1) Using market based measures might accelerate the capital flight from periphery to core countries and would add to the accumulation of risky assets by the ECB. (2) Conducting non-market based measures such as imposing differential (unremunerated) reserve requirements would distort banking markets and would support the development of shadow banking. (3) Staying passive would lead to decreasing interest rates in core Europe entailing inflationary pressure and over investment in those regions and possibly future instability of the banking system.

Keywords: TARGET2 balances, monetary policy, euro area, eurosystem, excess liquidity

JEL Classification: E42, E52, E58, F32, F36

Suggested Citation

Abad, Jose and Loeffler, Axel and Zemanek, Holger, TARGET2 Unlimited: Monetary Policy Implications of Asymmetric Liquidity Management within the Euro Area (June 30, 2011). Available at SSRN: https://ssrn.com/abstract=1875565 or http://dx.doi.org/10.2139/ssrn.1875565

Jose Abad

Institute for Economic Policy - University of Leipzig ( email )

Institute for Economic Policy
Grimmaische Straße 12
Leipzig, 04109
Germany

HOME PAGE: http://www.wifa.uni-leipzig.de/iwp/

Axel Loeffler

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Straße 14
Frankfurt am Main, 60431
Germany
+49 69 9566 2966 (Phone)

HOME PAGE: http://www.bundesbank.de

Holger Zemanek (Contact Author)

University of Leipzig - Institute for Economic Policy ( email )

Institute for Economic Policy
Grimmaische Strasse 12
Leipzig, 40109
Germany

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