Central Bank Losses and Economic Convergence

This paper discusses central bank losses and develops a formal framework for assessing the sustainability of its balance sheet. Analyzing the consequences of economic convergence in depth, it emphasizes the role played by the risk premium and equilibrium real exchange rate appreciation. A closed-form comparative-static analysis and also numerical solutions of the future evolution of the central bank’s own capital are presented. Applying this framework to an example of a converging economy, namely the Czech Republic, the authors find that the Czech National Bank should be able to repay its accumulated loss in about 15 years without any transfer from public budgets.