This exotic word is about something very simple: the banknotes in your pocket. Have you ever wondered where they come from? Euro banknotes are developed by the ECB, manufactured at a printing works and then stored in the vault at your country’s central bank. They make their way to you via your bank, which pays the face value of the notes to the central bank. To do this your bank usually needs to borrow money from the central bank or it pays by handing over some of its assets. The central bank earns interest on the money it lends, or receives a return on the assets it acquires – and this is called seigniorage income.
In a currency union, money travels
As euro banknotes travel freely across borders, at any one time the number of banknotes in circulation registered at each national central bank can vary enormously. The figure for one bank could even be zero or negative. For example, when German tourists seeking a Latin adventure take euro banknotes issued by the Deutsche Bundesbank with them to Spain, these notes are finally lodged at the Banco de España. As banknote issuance is an entirely demand-driven process, this means that the Banco de España would now need to put fewer notes into circulation because it is benefiting from the notes crossing the Pyrenees. For this reason, the central banks in the euro area balance out the amount earned on banknote issuance among themselves.
What is the ECB’s role?
Although the ECB does not physically issue banknotes, it has been agreed that of all the banknotes in circulation in the euro area, 8% – in terms of value – are considered to be issued by the European Central Bank. The national central banks put the notes into circulation on the ECB’s behalf, and the ECB earns seigniorage income on the 8% through the claim it holds on the national central banks.
Seigniorage income has been falling since 2008, in line with a decline in euro area interest rates. Other income sources currently make up the lion’s share of the ECB’s profits, such as the income earned on the asset purchase programme. Find out here what happens to the ECB’s profits.
Origin of the word seigniorage
In bygone days it was the “seigneur” or lord who had the right to mint coins – hence the name. Today in the euro area the national governments mint coins and the central banks issue banknotes.
Source: European Central Bank
Published: 7 Apr 2017
The above presentation was created for educational purposes.