Journal Issue

Research: Seigniorage: Are Central Banks Spending it Wisely?

International Monetary Fund. External Relations Dept.
Published Date:
July 2006
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Low inflation and high international reserve holdings have increased financial pressures on many central banks, heightening concerns about their efficiency and governance. A new IMF Working Paper by Alain Ize argues that the central banks facing serious governance issues are the least independent. There are also indications that many central banks, whether independent or not, could benefit from strengthening their governance through, among other steps, more transparency in financial reporting, periodic reviews of expenditures, and more systematic efforts to ensure that their services are adequately sized and priced.

Keeping seigniorage inside central banks has brought to the forefront issues of efficiency and governance.

Central banks’ exclusive rights on currency issue give them privileged access to seigniorage—the difference between the value of money and the cost of producing a currency within an economy. In the past, the siphoning off of seigniorage to governments raised familiar issues of fiscal dominance (monetary policy becoming hostage to fiscal policy) and inflationary finance. In recent years, many countries have taken substantive steps to curtail such linkages and enhance the independence of central banks by reforming their charters, prohibiting direct financing to governments, and getting rid of quasi-fiscal expenditures. Still, keeping seigniorage insidecentral banks has brought to the forefront issues of efficiency and governance. Is seigniorage spent “wisely”? Do central banks have adequate governance standards and safeguards?

These concerns have intensified because many central banks are seeing their financial position deteriorate. On the one hand, seigniorage has followed a clear downward trend, reflecting both declining inflation and a declining demand for currency (see chart below, left). On the other hand, the cost of carrying foreign reserves has tended to rise, reflecting an expanded accumulation of reserves (see chart below, right). Such trends have led to sustained losses and negative capital in many central banks, triggering intense technical and political debates about the need for (as well as extent and modalities of) central bank recapitalizations.

On the decline

Over the past nearly two decades, declining inflation and demand for currency have kept seigniorage on a clear downward trend.

(average of 100 countries, percent)

Data: IMF, International Financial Statistics.

Rising reserves, ballooning costs

While seigniorage has been declining, the cost of holding reserves has tended to rise, reflecting a sharp growth in reserves.

(reserves, percent of currency)

Data: IMF, International Financial Statistics.

Generating and allocating seigniorage

An empirical analysis of the 2003 audited financial statements of over 100 central banks shows very clear differences between “strong” central banks (those that have positive structural profits—for example, profits adjusted for valuation gains and other nonrecurrent income and expenses) and “weak” central banks (those with negative structural profits).

Despite generating higher seigniorage through looser monetary policies (higher inflation), weak central banks found themselves in worse financial condition, reflecting much higher operating expenditures and larger nonperforming assets. At the same time, despite their negative profitability and capital, these weak central banks transfer, on average, nearly as many dividends as strong central banks; accumulate foreign assets at a higher rate than strong central banks; and provide more financing to governments. Given these constraints—and in sharp contrast with strong central banks—weak central banks lose capital.

These findings, on the whole, suggest that independence and governance are both major issues for many central banks. Faced with generally soft budget constraints (a product of large and expandable seigniorage revenues) and despite their own efforts to limit explicit new financing to governments, many central banks still seem to be used by governments as residual sources of cheap finance. Remarkably, these same central banks also generally overspend on operating expenses. Lack of independence and lack of governance seem to go hand in hand.

What determines operating expenditures?

An empirical analysis of central banks’ operating expenditures—controlled for country size, GDP per capita, currency issue, and the provision of full-fledged bank supervisory services—predictably reflects large country size and wealth effects. Central banks in smaller and poorer countries clearly have a harder time covering their fixed costs. Once adjusted for such structural differences, the analysis still shows a wide disparity across the sample, however. The best performer spends over three times less than the group average; the worst performer spends five times more (see chart below).

The fact that weak central banks tend to have worse expenditure performance indices supports the hypothesis that these banks face acute governance issues. But strong central banks also seem to have governance concerns. Their operating expenses vary widely, are strongly related to profitability, and do not appear to be clearly correlated with broad indicators of macrofinancial performance. The analysis also suggests that many central banks may operate on the basis of a limited perspective of public welfare. They try to fulfill demand for services as best they can, but do not question whether the marginal dollar used in such a quest would be better used elsewhere in the public sector.

Big differences

The best performer among central banks spends over three times less than the average, while the worst performer spends five times more.

(performance index)

= Weak central banks.

Data: Central banks’ audited financial accounts.

Improving central bank governance

The fact that the least independent central banks have more governance problems seems to strengthen the case for independence and should allay concerns that giving central banks more independence will lead to a free-for-all increase in their expenditures. Indeed, allowing central banks to freely manage their budget and set their wage scale is particularly critical at a time when many of them need to evolve toward a modern concept of central banking—that is, with few, but highly skilled, employees.

With independence, however, should come accountability, and a prerequisite for accountability is transparency. By facilitating comparisons, transparency gives central banks a clearer idea of where they stand vis-à-vis other central banks and helps them take appropriate corrective action when needed. For those central banks that do publish their financial accounts, there is much room for improvement in making them more easily accessible and understandable. For those that do not yet make their income statements public, it is, of course, high time they do so.

It might also be desirable to have governments periodically review central bank expenditures (including the cost of reserve accumulation). This would help ensure that the criteria for comparing the provision of public goods are sufficiently uniform across the public sector. New Zealand’s recently introduced arrangements designate that seigniorage income belongs to the state, but a share of it (renegotiated every five years) is retained by the central bank. This arrangement provides an interesting example of the kind of systematic stock-taking opportunities that other central banks may wish to follow.

Finally, central banks need to take further steps to ensure that the services they provide are adequately priced and paid for by the users. Indeed, the high carrying costs associated with large international reserves provide some justification—at least in principle and within reasonable bounds—for central banks to consider unremunerated reserve requirements or the use of other fee-based mechanisms.

Alain Ize

IMF Monetary and Financial Systems Department

Copies of IMF Working Paper No. 06/58, “Spending Seigniorage: Do Central Banks Have a Governance Problem?” by Alain Ize are available for $15.00 each from IMF Publication Services; see page 224 for ordering details. The full text is also available on the IMF’s website (

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