VoxEU Piece on Target 2

I know we’ve devoted too much time to this already but, for the anoraks out there, here‘s a VoxEU piece that I’ve written responding to the earlier article by Tornell and Westermann.

One of the funny aspects of this debate is it tends to trigger comments from German residents that say something like “phooey to you and your technical details, you know that Sinn is right that we’re getting ripped off”.  Forget the facts, feel the truthiness.

45 replies on “VoxEU Piece on Target 2”

Be a patriot – do not buy the Skoda Fabia Greenline as the Czechs are really Germans in disguise.
Buy the Fiat 500 with 1.2 petrol instead.
Both are class A tax vehicles (although the Skoda is more efficient) but the Italians will get some of our Punts oh sorry Euros instead.
Oh wait they make the Fiat 500 in Poland…………. ehhhhh, I’m confused

Lets face it Karl the stuff we and others were buying from the Germans did not add to long term wealth creation in the EU.
Now I can’t buy a French Luas for Cork by myself and me Goverment can’t either so what do I do ?
Do I try to make a rational indivdual capital investment ? – is that the most efficient use of resourses ? , indivdual purchase of capital goods / consumer durables via my deposit account.
How did that work out during the neo- liberal phase post mid 1980s ?

I would not say you have devoted “too much time to this” (except perhaps from the point of view of your own mental health). Keep up the good work!

One of the funny aspects of this debate is it tends to trigger comments from German residents that say something like “phooey to you and your technical details, you know that Sinn is right that we’re getting ripped off”. Forget the facts, feel the truthiness.

Do you get this from academics as well as the laity?

Sinn is a smart guy. I’m reluctant to think his views are biased because of his nationality, but it would explain a thing or two.

If I replace me high powered Bemer with a Fiat what happens to the tax take ?
I have made a more efficient choice but this is registered as a deficiency in tax income.
The domestic Euro CB is legally unable to defecit spend to fill this money void and therefore not enough money is available in the economy to pay down debt and facilitate commerce via a optimum / efficient medium of exchange.

Go figure what happens next ?

@Karl – very clear (again). If they can’t understand that there is no hope.
Unfortunately this is not the only misinformation that is doing the rounds in Germany. The inflationary consequence of any ECB action are hugely overstated – some are talking about hyperinflation (I have no doubt that the sale of wheelbarrows has gone up). Yet it is clear that the banks would use the opportunity to repair their balance sheets i.e. they would sit on the money. If you listen to the debate it would also appear that we (along with Greece and Portugal) have been given a massive present – funny how German politicians are slow to point out that they gave us a loan and that it is in the interests of the German tax payer that we pay it back i.e. that we do not go under. Very frustrating!!!

“I know we’ve devoted too much time to this already but”

Why Karl? If the facts are being ignored surely the right thing to do is keep being irritating by repeating them.

Should I shut up about 1.28 CP too?

I think VoxEU, and the institutions employing these academics have questions to answer. If such material had been published in an academic journal, it would have to have been withdrawn. Vox especially needs to think about this.

It is really striking…

The academic monstrosity of Target 2 is used to manipulate the public sphere and feed the mainstream with pretentious and potentially damaging statements.

Quick, someone tell me economics is free from ideology.

….and please, someone enhance the ECB vocabulary beyond Inflation…. I suggest “social conflagration” for starters.

Hopefully it’s not off-topic to ask whether the FT is right about the legalities of supporting governments via banks:

Now there is the suggestion that the ECB has a cunning plan to give the bazooka to Europe’s banks, which will be lent bags of cheap money, with which to buy their own countries’ debt.

The argument is tempting. Friday’s summit declared that there will be no more haircuts on sovereign debt. So if banks can get three-year ECB money at 1 per cent and buy Italian bonds at 6 per cent, this could help cut debt costs while bringing seemingly risk-free returns. This is not contrary to European rules and it could be in both parties’ interests. If the sovereigns go, Europe’s banks are front line victims.

As the FT goes on to say, it’s obviously a transparent work-around, a scam really, but is it contrary to any rules?

Link: http://www.ft.com/intl/cms/s/0/93a9632a-2280-11e1-acdc-00144feabdc0.html#axzz1gJKvZUxI


Good piece, KEep up the good work.

Question, along the lines of Incognito above. The Germans are on the hook for 28% of the recap needs in the event of loan losses. However, if there is a series of sovereign defaults and exits from the single currency do they not end up holding the bag for an increasing share of said losses?. Let us assume say 50% as one assumes that FR, NL and A stick with them to the bitter end.

@ Incognito

“It would be interesting for Karl Whelan to tell us what he thinks would happen with these Target 2 imbalances if the Euro breaks up.”

Why? What do you think would happen with them? I can tell you that whatever it is will be irrelevant compared to all the other the other chaos that a Euro break up would entail.

The odd thing is how much worrying people who know damn all about central banking are doing about items on central bank balance sheets.

It’s like people have forgotten that central banks that can create money. If the Euro broke up, the Bundesbank could write itself a big cheque, deposit it in a vault somewhere and say “there, that’s our new asset that replaces the Target 2 credit”.

No doubt some will think the piece of paper being deposited in the vault will produce a hyperinflation …

@ Tull

“do they not end up holding the bag for an increasing share of said losses?. Let us assume say 50% as one assumes that FR, NL and A stick with them to the bitter end”

No. Eurosystem loans are all handed out through the NCBs.

If the Eurosystem breaks up, then the losses associated with bank defaults and bad collateral will fall on the local central bank that handed out the loans. Mind you, they’d now have the power to print their own money outside Eurosystem constraints, so they probably won’t worry about it too much.

So in a break-up scenario, the Bundesbank is only on the hook for the losses associated with German banks defaulting on their loans to the Bundesbank. Which are now almost equal to zero.

@Karl Whelan

I don’t think it’s the fear of hyperinflation that troubles these guys, it’s the feeling that monetary fixes and suchlike are just too easy – they undermine moral fibre. It’s a view which has beeen labelled Donner party conservatism:

For those unfamiliar with the delightful appellation, coined by blogger John Holbo in 2003, it refers to the brand of conservative thinking that defends America’s relatively minimal welfare state and anemic economic regulations on the grounds that it’s good for people to have to struggle and suffer to get by — just like those plucky, entrepreneurial pioneers who resorted to cannibalism to avoid starvation while trapped in the Sierra Nevada mountains back in the winter of 1846-1847. For some Donner Party Conservatives, struggle and suffering are good because they call forth and demand great acts of virtue, which serves to replenish the ever-diminishing stockpile of “moral capital” that our nation has inherited from its (pre-liberal) past.


What gets me is that a couple of UCLA profs produce a very convincing academic piece and then a Dublin prof completely dismisses it.

This reinforces once more how weird a “science” economics is, that those at its highest academic level can be in such viloent disgreement about what is after all a matter of fact, there is no judgment concerning the operation of Target2.

Either the good profs from UCLA have got this completely wrong or our man has, seems to me it is the former.

Euro heading South spectacularly today against, embarrassingly enough for Merkozy, Sterling.

I can more or less guarantee nobody was trading on expectations of hyperinflation today 🙂

Good to read this Karl.
Its astonishing to see BWII statement. He clearly has some sort of UCLA issues….

@ BW2

“This reinforces once more how weird a “science” economics is, that those at its highest academic level can be in such viloent disgreement about what is after all a matter of fact, there is no judgment concerning the operation of Target2.”

I think this gets back to the point that Desmond Brennan made. I think it’s very unlikely that a paper as poor as the Tornell-Westermann piece would have been published in a peer-reviewed article.

In that sense, economics can be more “scentific” than these VoxEU exchanges, so things aren’t as bad as this makes it look. Unfortunately, the peer review process is often very slow and academic journals are not well-designed to respond to policy issues. That leaves an important gap that outlets like VoxEU address.

In a way, the exchanges over Target 2 are a form of peer review for the claims of Sinn et al on this issue. My sense (clearly not unbiased) is that the claims are considered by most to be spurious and misleading.

Given that Goverments will be unable to invest in anything under the zero defecit Euro system have economists considered how to best use tax / law enforcement policey so has to enforce investment by the indivdual / corporation only ?

Will it be a communist like system where people can buy any car they like as long as it is a Petrol .9 Fiat 500 litre or a Diesel 1.2 Skoda Estate.

This may seem like a mad laugh of a thing but it is a very very big economic problem.
How far must the commons fall apart before they recognize the stupidity of this economic policey decision ?
What will people buy when the roads fall apart ? Me thinks Hovercrafts are very energy intensive machines.

@ Karl

So what, in your opinion, is he deal here? Is this some sort of knee jerk reaction to the bizarre German anti-fetish around inflation, that anything which could possibly be construed to be a cause of inflation, even if it isn’t in reality, must be shouted down as hyper-inflationary, truth be damned and all that? Or is there some sort of grey area which, though wrong on investigation, could be interpreted in a whacked out way as being per Sinns viewpoint? Or is he just cracked in the head?

Also – what’s up with the photo???

Thanks for that Karl.

(I like your final word, arcania. Is that a type of arcana found in Arcadia? If not, it should be!!)


‘Also – what’s up with the photo???

Promissory Notes Galore burning brightly in the Northern Lights ….

I hear France will be downgraded at 10 o’clock!


Minor point:

U wouldn’t want to believe everything that one reads in peer-reviewed academic journals … this would be very naive …


Excellent article.

Quick question if you have a moment: Do you know if ELA is sterilised?

@Johh MC

Karl may know better, but I think basically – no.

Might be different as and when and if full allotment withdrawn.

Thanks grumpy. It is surprisingly hard to get information on ELA. I noticed that Karl was otherwise engaged being a voice of good sense on the Frontline.

A bit off topic, but on the ELA/promissory notes, Fintan O’Toole brought up the issue of the high interest rate on the promissory notes. As these notes are loans from one part of the State to another (IBRC), the interest rate on the notes is largely irrelevant. The relevant interest rate is the rate charged on the ELA, which is low, and profits (or losses) of the CBI on ELA go back to the exchequer anyway. As I see it, the issue with the ELA is a liquidity one. The State has to make large annual payments starting now — effectively having to pay back a loan that has been taken out on quite advantagous terms. It would help greatly to extend the maturity, maybe for a decade or more. I would also be interested to hear if this is also the way Karl sees it. I think there is a lot of confusion about what it is we are looking for in relation to the ELA. Just as there was a strong case for restructuring the maturity on the ESFS/EFSM to give us a fighting chance of pulling through the debt crisis, there is a similarly strong case for restructuring the ELA. I think we stand the best chance of pulling this off if it is put in these terms.

@ John McHale

Grumpy’s right. No sterilisation.

And I agree on the promissory note interest rates. I’ve been planning to write a little paper on this. Might do so over Christmas (the way you do).

@ Christy/Bond

Don’t like my picture? Not boring enought for an economist? 😉

I think Karl has won a minor skirmish but has missed the fact there is a larger battlefield where the real battle is taking place.

Karl gives the technical operations of the ECB interbank transfers facilitated by Target 2. If you were to digest his argument fully, you would say all is well in paradise, Greek banks have their money, the ECB has its money, the Bundestag has its money, German banks have their money all monetized through the debt/credit asset/liability transfers he describes.

So where’s the problem being experienced by the ECB, the Bundesbank, the German and French banks? I don’t fully have the answer as I can’t produce the datas that ought to be available to me from adequate stress tests. Plus my own inquiry driven by curiosity and a search for answers is an ongoing project and hasn’t fully concluded 🙂

However, I’m in a postion to provide some pointers to the answers I seek. Firstly, I’d like to point out Karl’s summary relates to commercial bank transactions only. Why is this important? Well, in 2008, it was shadow banking that brought about 2008. We do not know the activities of German/French investment banks in CDS and OTC derivative markets over the past number of years. Its possible, if not probable, huge losses have been made. Furthermore, european investment banks operating in the currency forex investment markets, have taken huge losses. Also, if I’m not mistaken, interbank lending can occur trans nationally, correct me if I’m wrong, with eg US banks directly lending to European banks. Fears of undeclared losses have dried this market. Also as in the case of rising spreads against Italy 6% + there is the issue of Italian/Spanish bond markets closure for these countries and how these measures relate to ELA that Karl has covered..plus issue of ECB bond purchasing.

I don’t know if you would regard this as part of the shadow banking system, perhaps it requires a third category of lending. But in the risky euro, the sovereign bond market is busy funding the euro eg with the recent central bank dollar denominated backing of banks in the eurozone providing/guaranteeing the liquidity of CB’s in Europe in order to bolster the funding of European banks.

I could go on and talk of the Bundesbank share of liquidity funding for EFSF bailouts and the shares of this funding from other EMU members plus how this funding will be effected by further rating downgrades….
There are threatened further downgrades of banks across the eurozone.

The boring point I’m making is KW piece does give the impression all is well with liquidity and solvency in the EMU.

Perhaps for balance KW could elaborate on the present danger to the European banking system posed by some of the above issues. To put it another way, KW describes how the bucket works, but doesn’t tell us how there is a hole in the bucket and how that works 😕 There is a lot more to be explained over and above the normal interbank lending between eg German and Greek banks in a normal situation; unaffected by bigger issues posed by a currency crisis.

Further info on any of the above appreciated.

@ Edgar Morgenroth

Re: “funny how German politicians are slow to point out that they gave US a loan and that it is in the interests of the German tax payer that we pay it BACK i.e. that we do not go under. Very frustrating!!!”

I agree with you except please do not use the words ‘BACK’ or ‘US’ when you say “in the interests of the German tax payer that we pay it BACK”. What is being discussed is “in the interests of the German tax payer that we pay it.”, because we (the Irish Government, taxpayers / citizens) DID NOT receive this money in the first place (unlike in Greece, Portugal etc.), so it is incorrect to use the word ‘back’, or ‘us’.

Sorry if this seems picky when talking to someone who knows this already, but it is important how we use the language to get across our case (which is very strong).

I made this point in reply on the NYT a couple of months ago and it seemed to be appreciated there (& I mentioned it at 7:47pm here: http://www.irisheconomy.ie/index.php/2011/10/14/nyt-a-call-for-a-write-down-on-irish-debt/ )

from the NYT site:



@ Outraged Oakland

Re: ‘Now Ireland wants to be bailed out by an entirely different country’

You should understand that Ireland (the government & the people) DID NOT receive this money. This is unlike the situation in Greece where the sovereign did actually get the money.

In the discussion about money owed to bond-holders people use the phrase “if Ireland can’t or won’t pay it back”.

It is incorrect to use the word ‘back’.

What is being considered is whether to ‘pay it’, or not, but as we, the Irish citizens, never received this money in the first place it is wrong to talk about paying it ‘back’.

In fact not only did Irish taxpayers not receive the money, the fact that foreign banks lent the money irresponsibly meant that the vast majority of Irish people were disadvantaged by massively inflated house prices. Sensible people never wanted this money to flood into Ireland in this way in the first place.

Can you please draw attention to the distinction between ‘pay it’ and ‘pay it back’ in your discussions, as more and more people are being mis-led (also unintentionally) and perhaps in an unconscious way even the Irish people are having the way they think about this manipulated – the Irish public themselves sometimes now also use the word ‘back’ inappropriately.

Foreign PRIVATE risk-taking banks lent money to PRIVATE banks in Ireland, which later when going bust, in an attempt to stop a contagious disaster throughout Ireland and Europe, the Irish government said they’d try to guarantee this private debt (but the Irish citizens weren’t asked and certainly did not agree to it).
Professor Honohan and others said that Ireland prevented an event worse than the Lehman’s collapse in Europe. When it was obvious that the little Irish citizen couldn’t possibly pay this huge debt belonging to private risk-takers, Europe stepped in and insisted that there should be no ‘frightening the horses’, & haven’t yet let the debt be given back to those who it belongs to. Thank you.

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If I understand this correctly, the Irish banks borrowed money from across the EU to finance the Irish Celtic Tiger boom. The Irish bank loans have failed and the Irish government is being forced by the EU to bail out the bondholders from across the EU who loaned the Irish banks the money. Why should the Irish people be forced to bail out the Germans who loaned the Irish banks the money in the first place? Shouldn’t the German bondholders who took the risks be required to take a major haircut? Isn’t that how capitalism works? Forcing the Irish people to repay the bondholders in the failed Irish banks is another example of “privatize the profits and socialize the losses.”

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You are mostly right, but just to change:

“the Irish banks borrowed money from across the EU to DESTROY (not ‘finance’) the Irish Celtic Tiger boom”.

Because there was (& is being made again) a real solid economy, based on real things, before this cheap money flooded in, looking for private sector “investment opportunities”. Ireland took ~30 years putting the pieces in place to create this solid economy, and then two parasite so-called professions – bankers (foreign & Irish) and property lawyers – came along and not only sucked the blood out of the economy, they expelled huge numbers of the next generation to emmigration. And they did this sitting in offices putting immoral contracts & 40 year mortgages down on paper, pushing house-prices out of reach for any sane calculation (but then lending 12 times salary to pannicked novice first-time-buyers who are now also destroyed), they didn’t create ANYTHING, they didn’t even physically build any part of one of the surplus houses, and they could’ve done all that they did with 18th Century quill pens & ledgers and so on, so out of touch are they with what it means to contribute in a modern society.

But I digress, you are otherwise correct, “Why should the Irish people be forced to bail out the Germans who loaned the Irish banks the money in the first place? Shouldn’t the German bondholders who took the risks be required to take a major haircut? Isn’t that how capitalism works?”

But as per my earlier post, you are wrong to use the word ‘repay’ when you say, “Forcing the Irish people to repay the bondholders in the failed Irish banks is another example…”

You should use the word “pay”, because we never got the money in the first place.

So, “Forcing the Irish people to PAY the bondholders in the failed Irish banks is another example of “privatize the profits and socialize the losses.”

Except it’s even worse than that, because during the days of the private ‘profits’, the private money was acting against us!

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@ Outraged Oakland,

One more point:
You wrote “German money should belong to Germans.”

which is true, but therefore
“German private bank-loans should belong to German private banks”,

whether the loans make a profit or a loss.

And this is what we’re talking about here.

Ireland (the government & the Irish people) did NOT get this money!

Please also read my first post, CMEIER’s post, and my reply.

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I would like to echo what Peadar Coleman has posted here.

To Peter and ‘outraged’ – get your facts straight and find something real to be ‘outraged’ about before you suggest that the Irish people are parasites.
What the Irish taxpayer is forking out for is debt run up by approx 80 PRIVATE developers who were lent money by PRIVATE Irish banks who in turn were lent money by PRIVATE German and other EU banks……

D. Eustace:

—thank you Peadar Coleman—for the clarity of your explanation—the financial papers, intentionally or not, fail miserably in explaining the underlying cause of the worldwide recession—the people of the world are left powerless and bewildered—

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Barry Mullan
Boston, MA

Peadar Coleman for Aras 11 ! “


I’ve posted many times re ‘the royal WE must pay bondholders, WE must pay for Anglo/AIB and the Banks ‘, often used with impunity to try to brainwash people with propaganda that taxpayers pay for the private party!

To extend your lexicon, might I point you in the direction of the term ‘gombeen’. The ‘gombeen’ used in the technical sense below, I define as one who actually believes in this argument. Unfortunately, there is not enough logic to the contrary, such as yours.

Expect to get lots of if, and and buts, describing eg Irish people buying property abroad paid for by salaries financed by the bubble.

Some indirectly benefited from the party, they didn’t organise and fund it!




Prof. Whelan seems to have interpreted my question as kind of suggesting that I was disagreeing with his analysis of Target 2 imbalances. That is not the case.

In a monetary union, I also regard these imbalances as a mere technicality. However, I was wondering what would be the economic meaning (if any) of these imbalances if the monetary union would break up and the ECSB to disappear. My assumption would be that these imbalances would in fact be converted into deposits of say the Bundesbanks at the other central banks, deposits not in Euro but in the new currencies.

As Prof. Whelan states, the other central banks can repay these deposits by simply creating money. But then I was wondering what would be the implications for monetary policy, inflation, etc. Not so much in Germany but in the other countries.

My assumption would be that these imbalances would in fact be converted into deposits of say the Bundesbanks at the other central banks, deposits not in Euro but in the new currencies.

+1 Exactly what would be the technical aspects of an unwind by CB’s from the ECB

Prof Whelan writes:

This raises the question of whether it is accurate to describe these transactions as securities owned by the Bundesbank or as loans. In actual fact these entries correspond to loans, ie, they are securitised loans, specifically repurchase agreements, so the Bundesbank holds a security as collateral prior to the loan falling due. But the value of the loans are less the value of the corresponding securities (ie a haircut is applied to the collateral) so the asset on the Bundesbank’s balance sheet is the value of the loan, not the value of the collateral.

My inadequate understanding or imagining of what would happen in the case of a breakup of the euro, is that the ECB would cease to facilitate
these transactions immediately. Each CB would do an in loco parentis of the ECB to facilitate interbank lending within its own national domain. It would issue currency to the value of the total securitised currency transactions previously facilitated by the ECB to maintain liquidity in the new national currency.

This would be issued, for example, on a one:one par with the dollar, sterling. This would allow the new currency to float overnight, but would quickly see falls in value against eg the dollar rate of exchange. Inflation masked by the euro exchange rate would appear overnight and would have to be dealt with.

My own understanding of these transitions is very incomplete so caveat emptor on the above. I’m sure its not a subject many posters want to read about; still, data on this and correct information would I’m sure benefit lots of people!

Asked re this before, i’ll ask again as I’ve occasionally missed important troll post responding with negativity to some point I’ve made, which is fair enough.

I recommend better software for the forum, example above thread.

12:07 11:17 and 4:33 Incognito and Prof Whelan 4:50 response to Incognito should be gathered together under the one thread with posters allowed to develop and contribute to that point.

Even a speed reader will find it difficult to read back through all posts to make sure they have not missed one particular point made by a poster to their own points in the above discussion.

This also enables the main topic to be more closely followed with tangents dealt with in this way.


Above is free!

Continuing on my previous assumptions, we start from the situation where the Bundesbank would own massive deposits at the other central banks of the ex-Euro area.

If the Bundesbanks requires these deposits to be paid back, it would correspond in my opinion to a tightening of monetary policy in Germany. More likely, this would translate into an appreciation of the DM vs the other currencies, erasing any competitiveness advantage they have. On present policies, I personnally believe that Germany would in fact end in a liquidity trap, which it would only be able to leave by a combination of budget deficits and quantitative easing.

In the other countries, paying back the deposits would require money creation, which would be probably inflationnary. But that problem is not very difficult for the central bank to deal with.

Alternatively, the Bundesbank could decide to keep its portfolio of foreign currency assets to avoid a tightening of monetary and/or an appreciation of the DM. But it would probably seek a better return than the low-yielding central bank deposits. It might buy instead some of these high yield sovereign bonds … the repayment of which is now assured as these countries have their own central banks again.

Some interesting implications, isn’t it?

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