Q&A - The Riksbank's income statement and balance sheet
About the Riksbank's loss
The Riksbank makes a loss of 81 billion for 2022. What is the reason for this large loss?
The Riksbank's loss in 2022 is due to a large reduction in the value of its bond holdings when interest rates rose sharply last year.
With the accounting rules used by the Riksbank, the bond holdings are market-valued at the end of each year. The market value largely depends on what market participants believe about future interest rate developments. When inflation and interest rates rose over the past year, market participants revised their beliefs about future interest rates upwards, which caused bond prices to fall. The market price of the bonds has thus become lower than the Riksbank's purchase price (acquisition value). This is why the Riksbank has made a loss of value on its bond holdings. As long as the Riksbank retains the bonds, the loss is not realised. But if this unrealised loss in value is greater than previous unrealised gains on the same securities, the Riksbank will report a loss in the profit and loss account for the year.
Could you have done anything to avoid this large loss?
During the period before the pandemic, when inflation was very low for a long time, the Riksbank, like several other central banks, bought securities to make monetary policy more expansionary and thus achieve the objective of price stability. During the pandemic, the bond purchases also contributed to safeguarding the supply of credit in the economy and avoiding excessively high interest rates for companies and households. The Riksbank assessed that the measures were necessary during these periods and that they have contributed to economic gains and to maintaining confidence in the inflation target.
When inflation rose as the pandemic subsided and Russia invaded Ukraine, the Riksbank, like other central banks around the world, needed to tighten monetary policy to combat inflation. As a result, interest rates in Sweden and around the world rose rapidly and the value of the bonds purchased by the central banks declined, leading to the losses we see today.
The Riksbank is thus not alone in making large losses on its securities holdings. Other central banks, such as the Reserve Bank of Australia (RBA), the Bank of England (BoE), the ECB and the Fed, among others, have made similar purchases of securities and have communicated that they are also making and/or are expected to make losses in the future.
Can the Riksbank function normally despite large losses and negative equity?
In the short term, losses from securities holdings do not affect the Riksbank's ability to fulfil its tasks. The Riksbank can continue to conduct an effective monetary policy and operate in a normal manner. A central bank can always pay for itself in domestic currency and can have negative equity for a period of time and still fulfil its tasks, and there are recent examples of this, including the Czech Republic's central bank (see also Vredin, Nordström, Staff memo 2023).
In the longer term, however, a low level of equity may lead to a deterioration in the central bank's ability to finance its activities on its own. This may in turn weaken the central bank's financial independence and ultimately affect public confidence in the central bank's ability to perform its tasks independently. It is therefore reasonable for a central bank to endeavour in the long term to have equity that ensures its financial independence. This is needed both to be able to cover the costs of its operations and to have buffers for the type of losses that the Riksbank is making now, even if they are unusual.
Have the benefits to society outweighed the losses incurred by the Riksbank?
The most important effects of the securities purchases were that they contributed to the defence of the inflation target in the period 2015-2017, and to the Riksbank's ability to manage the enormous uncertainty created by the pandemic in 2020-2021.
International research and analyses made by the Riksbank show that securities purchases have contributed to lower interest rates, more expansionary financial conditions, higher economic activity and lower unemployment, which in turn strengthens public finances. The financial and economic effects of asset purchases can be estimated in different ways, for example by using macroeconomic models (see, for example, Kjellberg and Åhl, Economic Commentary, 2022) and by studying what happens on financial markets when central banks announce asset purchases. The securities purchases during the corona crisis also reduced the risk of a serious credit crunch and sharply increased interest rates for households and firms. The Riksbank, like other central banks that purchased securities during the pandemic, took over some of the risk from the market and thus contributed to limiting the spreads between riskier assets and government bonds. The low level of interest rates and expansionary financial conditions supported the economic recovery (see the Riksbank's annual reports "Account of Monetary Policy" for more information on the monetary policy rationale for the period 2015-2017 and the pandemic years). The potential benefit to the economy from this is judged to be very large.
About the Riksbank's equity
How does the loss affect the Riksbank's capital?
It is the Riksdag that approves the Riksbank's annual report and decides on the allocation of profits. This is normally done in May. When the Riksbank (after any risk provisions) makes a profit, this is normally paid out to the government. Now that the Riksbank has instead made a loss, the Riksdag will most likely adopt the General Council's proposal to allow the loss to be offset against the Riksbank's equity. This means that equity will be negative.
How can the Riksbank rebuild its equity?
There are various ways to rebuild the equity. If market interest rates fall in the future, this would contribute positively to the result, as the bond holdings, which are market valued, would then increase in value. The Riksbank could then make a profit again and thereby strengthen its equity instead of distributing the profit to the government. Another alternative is for the government to give the Riksbank a capital injection. How this works is regulated in the Sveriges Riksbank Act and you can read more about this at "The framework for the Riksbank's equity in the new Sveriges Riksbank Act". If the Riksbank had been in a situation where currency in circulation increased, the seigniorage the Riksbank receives via the issuance of notes and coins could have helped to rebuild the equity.
Will the Riksbank need to request a capital injection from (submit a petition for recapitalisation to) the Riksdag, and if so, when?
According to the new Sveriges Riksbank Act, the Riksbank must submit a petition to the Riksdag to restore equity if equity is lower than one third of the target level for equity (read more about the framework). Most of the provisions in the new Act regarding budget and accounting apply from the financial year 2023. This means that if the annual report for the financial year 2023, when it is published in February 2024, shows that equity is lower than the minimum level, 1/3 of the target level of SEK 60 billion, the Riksbank shall make a submission. As the Riksbank has reported a loss in the annual report for 2022, it is already clear that the Riksbank's equity will be lower than the minimum level in the annual report for 2023.
Now that the 2022 loss leads to the Riksbank's equity becoming negative, how large a capital injection will you need?
It is far too early to assess this now. The Riksbank is now in the process of finalising a thorough analysis of its financial position to be able to estimate the amount of capital injection needed to ensure sufficient financial independence. The new Sveriges Riksbank Act means that a petition to restore equity (a request to the Riksdag for a capital injection) needs to take into account a number of aspects, such as the Riksbank's prospect for long-term self-financing, the significance of unrealised profits and the assessment of our future earning capacity and operating costs.
Who decides how much capital injection the Riksbank can receive?
In a petition to the Riksdag, the Riksbank can request a capital injection based on the needs shown by the Riksbank's analysis. But it is the Riksdag that decides how large the capital injection will be and when and how it will be transferred to the Riksbank.
Is there any way for the Riksbank to increase its earnings and thus avoid asking the Riksdag for capital injections?
This is something that the Riksbank is now investigating and will take into account in its petition to the Riksdag on restoring equity.
It would be very difficult for the Riksbank to increase its earnings in such a way that it would completely eliminate the need for a capital injection. There may be small possibilities to increase earnings, but this would come at the expense of increased risks on the balance sheet and reduced emergency preparedness. Another possible source of earnings could be seigniorage, but it is very unlikely that this would increase as the amount of notes and coins has steadily declined in recent decades.
About the Riksbank’s accounting policies
What is the difference between a balance sheet and a profit and loss account?
The balance sheet presents the value of the Riksbank’s assets and liabilities.
The assets show what the Riksbank owns and the liabilities show how the assets are financed.
This means that the total value of the assets must always correspond to the total value of the liabilities, meaning that the assets and liabilities must be in balance.
The liabilities are divided into liabilities to the owner (the Riksdag) and liabilities to parties other than the owner. The liabilities to the owner are recorded in the Riksbank’s balance sheet under the items Revaluation account, Equity and Result for the year.
The item Result for the year corresponds to the sum of all revenue and expenses recognised in the profit and loss account.
Why do central banks use so-called revaluation accounts?
Unrealised gains on the Riksbank’s assets are recorded in so-called revaluation accounts. The purpose of these accounts is to make it easier for central banks to avoid distributing unrealised gains to the Treasury. The value of the Riksbank’s assets can vary considerably over time.
Distributing unrealised gains to the government could erode the central bank’s assets.
However, the extent to which unrealised gains should be distributed is ultimately decided by the General Council of the Riksbank and the Riksdag.
Must the Riksbank value its bond holdings at market value?
The Riksbank values both the foreign bond holdings in the foreign currency reserves and the bond holdings in Swedish kronor at market value.
According to the accounting rules, the Riksbank must report the foreign bond holdings at market value but has the possibility, based on monetary policy considerations, to value the bond holdings in Swedish kronor held for monetary policy purposes at accrued acquisition value.
The difference between these two valuation principles is that the market value corresponds to the sum of the bond’s future cash flows discounted at the current market rate and the accrued acquisition value corresponds to the sum of future cash flows discounted at the market rate when the bond was acquired. Both principles give the same total result if the Riksbank holds the bonds until maturity.
When measured at accrued acquisition value, the result tends to be more evenly distributed over the holding period, provided that the bonds are held to maturity.
The Riksbank has chosen to use the same valuation principle consistently for all assets, and thus be transparent about what losses (or gains) are expected in the future, and to demonstrate the consequences of selling the holdings before they mature.
In addition, the valuation principle the Riksbank has chosen for the monetary policy bond holdings is in line with the international accounting policies stated in IFRS 9, where financial assets are to be valued at market value, also known as fair value, if the assets may be subject to sale before they mature. The Riksbank has not promised that the assets will be held to maturity and, at the beginning of April 2023, the sale of parts of the monetary policy bond holdings began.
What does it mean when unrealised losses are transferred to the profit and loss account?
When market value is lower than acquisition value, an unrealised loss arises and is recorded in the profit and loss account at year-end as a write-down.
At the same time, the acquisition value is adjusted downwards to the current market value. This means that future market rates for gold and each individual foreign currency holding in the foreign exchange reserves will be compared with this adjusted acquisition value when future unrealised gains and losses are calculated. For individual bond holdings, the amount written down as a result of a decline in the market price of the bond will then be reversed in the profit and loss account as the decline in value does not affect the fact that the nominal amount of the bond is expected to be repaid at maturity. This takes the form of increased interest income until the bond matures or is sold, thus generating a profit.
Who decides on the appropriation of the Riksbank’s profits?
The Riksbank is a public authority accountable to the Riksdag. Under the new Sveriges Riksbank Act, the General Council of the Riksbank decides on the appropriation of the result for the year and the Riksdag approves the General Council’s decision. This arrangement applies from the start of the financial year 2023.