The Trans-European Automated Real-time Gross Settlement Express Transfer system (TARGET) has been used for some time to reveal disparities between Eurozone countries’ economies. According to the ECB, a decrease in the gap between TARGET2 balances could be observed as early as this year. What evolutions in the Eurozone could current conditions generate in the near future?
Each passing year takes us away from the previous crisis, but inevitably brings us closer to the next one. Prophesizing an economic crisis every year is like rolling a dice by announcing the same number with each roll: the announced number will appear sooner or later, and you will end up with the feeling that you were right. Many dice players have decided and some continue to see the state of TARGET2 balances as an obvious crisis factor. However, it would seem necessary in the period to approach the TARGET2 subject with more prudence.
What is TARGET2?
Launched in 1999 with the introduction of the Euro and reformed in 2007-08, the Trans-European Automated Real-time Gross Settlement Express Transfer system (TARGET then TARGET2) is the Eurosystem’s architecture enabling EU banks to execute high-amount transactions across the union in a fast and secure way. The average amount of transfers recorded is about €6 million. Today, the equivalent of the Eurozone’s GDP, i.e. approximately €10 500 billion, is transfered in six days through it.
All Eurozone’s National Central Banks (NCB) have a TARGET2 balance, which provides information on when and how much euros are joining and leaving their national “economies”. Simple to use, the system nevertheless often challenges those who want to explain its functioning – and the interpretations of its indicators.
How does it work and what does it indicate?
By recording all high-value cross-border transfers, the system makes possible to see the capital’s preferred destinations within the Eurozone. A description of the practical functioning of the system in the case of a cross-border transfer follows.
For the case of a transfer of a certain amount in exchange for a good or service from the bank account of a purchasing company (A) located in a certain Eurozone country to a selling company (B) located in another Eurozone country: the system would record a transfer from the former to the latter in the balance sheets of the purchasing company’s NCB (A), the European Central Bank (ECB) and the selling company’s NCB (B). Thus the transaction will be recorded in the balance sheets of these last three institutions in addition to the two companies’ banks.
In the unrealistic scenario where the two NCBs’ balances before the payment was zero and that no other operations were to be added during the day on which the operation was executed, the first NCB would have, at the end of the day, a negative balance while the second one would hold a positive one, both up to the amount transferred. In reality, of course, capital movements constantly modify, to a varying extent, the TARGET2 balances of the Eurozone’s NCBs.
It must be noted that these balance reports are first and foremost notional and indicative as long as the Eurozone maintains its unity.  However, they say something about the incompleteness of the Eurozone.
A worrying evolution of the balances
The TARGET2 graph shows a first increase in balances differentials in 2007, which corresponds to the immediate effects of the economic crisis. In fact, differences have existed since the creation of the Economic and Monetary Union but were contained by investments made by economic actors from current creditor countries to debtor ones. The crisis have led the former to lose their confidence in the latter. This loss of confidence has resulted in a so-called ‘capital flight’.
To mention the most illustrative recent figures of the differences existing, it must be said that: at the end of 2018, Germany’s creditor balance amounted to +966 billion euros, Luxembourg’s to +213 billion euros and the Netherlands’ to +92.5 billion euros; while Italy’s debtor balance was -480 billion euros, Spain’s -402 billion euros and Portugal’s -83 billion euros.
By way of comparison, the Italian and German balances in January 2007, six months before the subprime crisis, amounted to +27.7 and +10.6 billion euros respectively. In July 2011 Italy’s balance is at zero and Germany’s at +325 billion euros. Despite some significant reversals in trends in 2013-14, the first balance continued to fall and the second to increase.
As long as the quantitative easing lasted…
The unconventional policy of quantitative easing applied by the ECB between March 2015 and December 2018, has resulted in the injection of €2,600 billion of liquidity through the repurchase of sovereign bonds from banks. Many, including the ECB itself and its President, Mario Draghi, wish to see the widening gap in the balances between, basically, the North and South of the Eurozone between 2015 and 2018 as an effect of such a policy.
While many investors have lost confidence in the economies of the South as a result of the crisis, confidence has not yet fully recovered. The studies on the path taken by the liquidity injected through the ECB’s quantitative easing show that it would first find refuge in the Eurozone economies and financial systems considered as safe, i.e. located in the North. 
In practice, however, while the ECB put an end to quantitative easing at the end of 2018, a loss of surplus of around 100 billion on the German side have been reported in January 2019, as well as a stagnation of the Italian balance. These data, however, must be interpreted with great caution.
Forward or backward: Move anyway
The disappearance by force of a political or economic crisis (1), a deconstruction process and concerted exit from the system (2), a correction to better meet the needs of the economies that constitute it (3) and/or the creation of a budgetary mechanism to address imbalances (4) are options on the table of the Eurozone decision-makers.
The first option does not require any specific prior EU action to be experimented though. The other three refer to a choice between a managed disintegration, an alternative community model or a deeper integration. Concretely, the third option is notably exemplified by the idea of breaking the exchange rate of one euro equals one euro between European countries with too different economic performances. The fourth option corresponds to the ambitious idea of establishing a proper budget (possibly funded through Eurobonds) for the area, to correct imbalances, directed by a minister or commissioner under the supervision of a dedicated parliament.
The period enables to assess the circumstantial and structural nature of the current TARGET2 balances, as the effects of stopping quantitative easing should gradually become observable.
It remains to be said that, in its current state, the Eurozone is an economically and politically vulnerable entity. If the Euro had not been so well adopted and accepted by the people , it would be almost impossible to define how the Eurozone could, without changing, reach its third decennial anniversary. The Eurozone peoples seem to trust their currency. The challenge today could be to give them trust in (the) institutions bearing it.
Mehdi Sénamaud-Bellamdaouar is a second-year Master student at the Institute for European Studies (ULB)
Notes and References:
 “If a country were to leave the Eurosystem, its national central bank’s claims on or liabilities to the ECB would need to be settled in full.” Extract from a Reply-Letter of Mr. Mario Draghi, President of the European Central Bank, addressed to Mr. Marco Valli and Mr. Marco Zanni, Members of the European Parliament, 18 January 2018. [online]. Available at: https://www.ecb.europa.eu/pub/pdf/other/170120letter_valli_zanni_1.en.pdf
However, it is not yet clear how this settlement would be managed.
 Focus – Why have Eurosystem imbalances increased again since spring 2015? INSEE. .insee.fr. [online] 20 June 2016. Available at: https://www.insee.fr/fr/statistiques/fichier/2871928/062017_ndc_eclairage_marchesfi.pdf
 Eurobarometer: Support for the euro steady at all-time high levels. European Commission. Europa.eu.[online] 20 November 2018. Available at: https://ec.europa.eu/info/news/eurobarometer-2018-nov-20_en
Statistical Data House. European Central Bank – Eurosystem. sdw.ecb.europa.eu. Available at: http://sdw.ecb.europa.eu/browseChart.do?df=true&ec=&dc=&oc=&pb=&rc=&DATASET=0&removeItem=&removedItemList=&mergeFilter=&activeTab=TGB&showHide=&MAX_DOWNLOAD_SERIES=500&SERIES_MAX_NUM=50&node=bbn4859&legendPub=published; http://sdw.ecb.europa.eu/reports.do?node=1000004859
What is TARGET2? European Central Bank – Eurosystem. ecb.europa.eu. [online] 29 June 2016. Available at: https://www.ecb.europa.eu/explainers/tell-me/html/target2.en.html
Joseph E. Stiglitz. The euro could be nearing a crisis – can it be saved?. The Guardian. [online] 13 June 2018. Available at: https://www.theguardian.com/business/2018/jun/13/euro-growth-eurozone-joseph-stiglitz