TARGET2 and the European Sovereign Debt Crisis

The TARGET2 (T2) positions on the balance sheets of euro area national central banks (NCBs) have increased unprecedentedly since the beginning of the financial crisis. Currently only four euro area NCBs record T2 claims, while the remaining NCBs are T2 debtors. During the last twelve months, these developments were accompanied by a large public debate. The present article adds to the bulk of existing literature on this topic as it explains the origins and development of T2 positions by means of a stylized framework of financial accounts. It is stressed throughout the article that T2 positions constitute merely a reflex of underlying adverse developments in financial markets and respective counteracting measures of the Eurosystem that are necessary to maintain the financial stability of the euro area. Furthermore, the financial risks behind T2 positions, and the relationship to the monetary base, the euro area’s liquidity deficit and intra-euro-area current account deficits are discussed in greater detail. Finally, we discuss recent proposals to limit T2 positions and we provide several superior measures of how to re-balance T2 positions.