Monetary policy: Germany - DBB

Graph: daily DBB interest rate data

Deutsche Bundesbank monetary policy instruments and operating targets

Operating procedures

The Bundesbank reformed its money market procedures in February 1985. Several instruments were used to influence money market interest rates. First, credit institutions had access to two traditional standing facilities. Rediscount credit was provided through buying of bills of exchange or Treasury bills with remaining maturities of no more than 3 months. The discount rate was set at a low, subsidy level and therefore needed to be accompanied by volume quotas. The quotas were set annually for each individual bank, but at times the Bundesbank changed the rediscount quotas to facilitate its monetary policy operations. Lombard credit consisted of overnight loans against collateral. In principle, Lombard loans were extended only to bridge temporary liquidity needs and carried a high, penalty rate. However, before 1985, use of the Lombard facility had become persistent and provision of Lombard credit was sometimes suspended or replaced by Special Lombard loans. The second main money market instrument was open market operations under repurchase agreements (Wertpapierpensiongeschafte). Between April 1973 and February 1985, repurchase agreements in both bills and securities had been used intermittently but with increasing fequency. From February 1985, a system of regular securities repurchase transactions gradually replaced discount credit as the principal instrument for the provision of central bank money to credit institutions. Repurchase transactions were offered in the form of fixed rate and sometimes variable rate tenders (using either uniform (Dutch-style auction), or individual (US-style auction) bidding rates). Frequency and maturity of the repurchase transactions varied over time (from October 1992 weekly tenders with two-week maturity). At the end of November 1988 the Bundesbank supplemented its traditional securities repurchase transactions by adding so-called quick tenders for day-to-day money market management (same day settlement, with maturities of two to ten days). The third main money market instruments was the continuous sale of Treasury bills (Schatzwechsel Abgabe). From February 1985 the Bundesbank provided credit institutions with this effectively third standing facility, consisting of banks' buying 3-day Treasury bills from the Bundesbank at a fixed rate. Before 1985, this instrument had been used intermittently. This facility allowed banks to deposit any excess central bank money and thus created a floor in money market interest rates.

Bundesbank monetary policy strategy

The Bundesbank responded to the rising inflation in the early 1970s, and the failure of the fixed exchange rate system, by adopting a strategy of targeting money growth. The first targets were announced in December 1974. Initially, the monetary aggregate chosen for targeting was the German specific central bank money stock (CBMS), the sum of currency in circulation and a weighted average of bank deposits held by residents. In 1988 the Bundesbank adopted the conventional simple-sum M3 as its targeted money aggregate, because it deemed that the CBMS put too much weight on the rapidly growing currency component and thus overstated monetary ease. Money targets were announced annually in December and reviewed at mid-year. The formula for calculating target ranges explicitly took into account the Bundesbank's inflation goal, estimated potential output growth, and the expected trend of money velocity. These were combined using the quantity-theory equation to determine the desired money growth rate.

The Bundesbank freely acknowledged that one purpose of specifying target ranges, rather than single numbers, was to give itself some scope for short-run discretionary activism. The size of the target range varied over time, indicating changes in the amount of short-term flexibility the Bundesbank expected to need. The Bundesbank also showed a willingness to accept money growth outside of the target ranges for periods of two to three years. In principle, deviations of money growth from targets were supposed to be reversed subsequently, so that short-term considerations would not detract from the preeminent goal of low and stable inflation in the long run.

Many commentators have criticized the Bundesbank's strategy for its many target misses. The targeted money aggregate ended up outside its target range in 12 of 24 years. Moreover, in 11 of the 12 misses money growth ended up too high. However, there is logic to these facts. It should be noted that in 8 years of money growth misses the overall macroeconomic goal of inflation was on target or below target, and 3 years relate to the problems of German unification (1991-93). Thus, only in 1975, the first year of targeting, did money growth and inflation both exceed their target values.

Germany did not experience the degree of instability in relationships between targeted money aggregates, price level and income that a number of other countries did (for example, the U.S. and the U.K.). One substantial reason for this is that from the outset monetary policy did not rely on highly distorting measures of direct control such as interest rate controls, credit controls, etc. The German emphasis on reserve requirement ratios and rediscount quotas caused much less evasive behaviour from financial institutions and markets. In the U.S. and U.K. monetary targeting regimes coincided with the abolishment of various direct controls which complicated monetary policy greatly.

The monetary targeting framework continued until 1998, when, as of 1 January 1999, the European Central Bank assumed responsibility for monetary policy in the Euro area.

Bundesbank: Legislation, decision-making, transparency

In July 1957 the Deutsche Bundesbank (DBB) succeeded the Bank deutscher Länder, which was established by the western Allies on March 1, 1948 to execute a currency reform. The DBB is a public institution, whose capital is owned by the Federal Government. The Deutsche Bundesbank Act (Gesetz über die Deutsche Bundesbank) of 1957 determined that safeguarding the currency is the fundamental task of the central bank. The Act also required the DBB to support the general economic policy of the government, with two qualifications: a) the support ends when its own goal (price stability) is in danger, and b) the DB decisions are to be made independent of the government. Some observers have stated that the DBB was also subject to 1967 Stability and Growth Law (Gesetz zur Förderung der Stabilität und des Wachstums der Wirtschaft). This law required all public institutions to contribute to economic stability.

DBB and the government were required to consult each other with respect to substantial monetary matters. Meetings of the Central Bank Council of the Bundesbank could be attended by members of the government, who had no right to vote, but could propose motions. More importantly, decisions of the Central Bank Council of the Bundesbank can be deferred, at the request of members of the government, by up to two weeks. Such a request to delay Council decisions has as yet never been resorted to.

The supreme policy-making body of the Deutsche Bundesbank was the Central Bank Council, composed of the President and Vice-President of the Bundesbank, the other members of the Bundesbank Directorate (max. 6), and the Presidents of the Land Central Banks. The Central Bank Council generally met every two weeks, usually Thursday. Decisions on discount rate, lombard rate changes and securities repurchase transactions were announced immediately following these meetings, usually during the morning. There was not a definite target value for the money market (day-to-day) rate, although in practice, from February 1985 the day-to-day market rate closely followed the repurchase rate and before 1985 the day-to-day rate closely followed the (Special) Lombard rate.

HISTORICAL DATA, TABLES, SUPPLEMENTARY INFORMATION

Table Presidents of the Deutsche Bundesbank (and its predecessor)

Sources: Deutsche Bundesbank, http://www.bundesbank.de/stat/zeitreihen

DBB, The Monetary Policy of the Bundesbank 1994, 1995. DBB, Monthly Bulletin. DBB, Annual Report, Record of economic policy measures.

Deutsche Bundesbank Bundesbank Homepage

Central Bank

• About the Bundesbank
  • Description of organisation, missions and activities.
  • DBB, Monetary Policy of the Bundesbank, October 1995 (German only)
  • Deutsche Bundesbank (ed), Fifty Years of the Deutsche Mark - Central Bank and the Currency in Germany since 1948. Clarendon Press, 1999
• Frowen, S.F. and Pringle, R. (eds.), Inside the Bundesbank. Macmillan, 1998.

Monetary policy tactics

• DBB, Monetary Policy of the Bundesbank, October 1995 (German only)
  • Gerberding, C., Worms, A., Seitz, F., How the Bundesbank really conducted monetary policy: An analysis based on real-time data, DBB Discussion paper 25/2004.
• Clarida, R. and Gertler, M., How the Bundesbank conducts monetary policy, in C.D. Romer, D.H. Romer (eds) Reducing Inflation: Motivation and Strategy. NBER/Univ Chicago Press, 1997:
• Bernanke, B.S. and Mihov, I., What does the Bundesbank target? European Economic Review, vol. () 1997:

Monetary policy strategy

• DBB, Monetary Policy of the Bundesbank, October 1995 (German only)
  • Von Hagen, J., Money growth targeting by the Bundesbank, Journal of Monetary Economics, vol. () 1999:
  • Von Hagen, J., Inflation and monetary targeting in Germany, 1995
  • Neumann, M.J.M., Monetary targeting in Germany, 1996