Balance Sheet Expansion by Central Banks during COVID

Equipoise IIMA
6 min readJun 28, 2021


By Mayank Choudhary

COVID-19 has been an unprecedented crisis that no one saw coming. It has not only taken a toll on human lives but has also resulted in significant damage to economies around the world. To contain the pandemic, Governments have had to impose emergency lockdowns of various degrees, and as a result, economies have come to a standstill. The impact is expected to be so huge that IMF forecasts the global economy to contract by -4.9% in 2020 (World Economic Outlook Update, June 2020).

As expected, central banks around the world rushed to contain the damage. They went on a purchasing and lending spree in order to pump liquidity into the economy, termed “Balance Sheet Expansion,” meaning increasing the balance sheet strength by buying assets. Following charts show the increase in asset bases of three major central banks, The Federal Reserve (Fed), The European Central Bank (ECB) and The Reserve Bank of India (RBI):

Source: ECB Weekly Financial Statements
Source: Weekly Release of Factors Affecting Reserve Balances — H.4.1
Source: RBI Bulletins

Between W11 of 2020, which is around March end when lockdowns started to be imposed and W36, i.e., Aug end, central banks expanded their Balance sheets by 16% to 65%. Interestingly, RBI had started to inject liquidity even before the lockdown due to slowing growth concerns. It had conducted two LTROs of Rs. 25,000 Crore each in February 2020, at a time when only 3 COVID cases were identified in India. The pandemic further increased its need.

Components of Expansion:

Central Banks can expand its Balance Sheet in the following ways :

  1. Buying Government Securities
  2. Advancing loans and advances to Commercial Bank, Central Govt., State Govt., etc
  3. Buying Foreign assets including foreign currency
  4. Buying Gold & bullion

The following graph gives the component-wise growth in the asset side of the balance sheet for the Federal Reserve, ECB, and RBI. For the purpose of comparison, Asset base for each bank as on Week 39 of 2019 has been taken as 100 and divided into components:

Source: Fed Weekly Release of Factors Affecting Reserve Balances — H.4.1, RBI Bulletins, ECB Weekly Financial Statements

An analysis of Balance sheets reveals different banks resorted to different means. For, e.g., the US Fed purchased USD 2.4 Trillion of securities in 15 weeks. While in the case of RBI and ECB, liquidity injection through Repo operations formed a major chunk.

An important point to note here is that due to depreciation in rupee and a surge in gold prices, RBI has recorded significant gains in its forex and gold holdings. This increase, however, doesn’t add any liquidity in the economy.

Effects of Expansion on Economy:

Reduction in interest rates

To reduce overall interest rates in the economy and spur investment, the Central banks have reduced repo rates significantly. Repo or repurchase agreements, mean an agreement between Central Banks and Scheduled banks to buy securities from commercial banks, sell them back later at a rate called Repo rate. Simply put, it’s the rate at which scheduled banks borrow short term funds from central banks.

One interesting point to note is that ECB had zero percent interest rates even before the pandemic, and the bank has continued with zero interest rates.

The effect of these measures was the lowering of interest rate yields across all maturities ranging from short-term to long-term. For demonstrating the same, 10 Yr and 1 Yr Gsec of the US, Eurozone, and India have been taken:

One important point to note is although yields went down across all maturities, short terms yields went down more than the long-term yields, especially in India and the US. Long term rates were stickier, and hence the spread between long term and short terms yields have ballooned. This issue is more prominent in India, and RBI has taken several steps to reduce the spread, including Targeted Long-term repo operations, Project Twist, etc.

Increase in Money Supply in the economy

The primary objective of balance sheet expansion is to increase the supply of money in the economy. When liquidity is pumped in the economy, it helps in creating demand, which further helps in creating supply and boosting the overall economic activity by creating a virtuous cycle.

In order to gauge the level of increase in the supply of money, an increase in the level of M0 (Narrow Money) has been compared with the overall increase in the Balance sheet (scaled to 100). M0 means the liability of Central banks towards currency in circulation in the economy as well as deposits of the scheduled banks with Central banks:

One point to again note is that in the case of the US and Eurozone, the money supply increased proportionately with an increase in balance sheet size. However, in the case of India, there was a divergence between both. Following reasons can be attributed to the same :

  1. Increase in assets due to revaluation gains on forex and gold bullion. These don’t add to the increase in the supply of money as it adds to the revaluation gains reserve.
  2. M0 looks at net credit given to banks and Govt. (deposits given less deposits taken), and although repo operations increased, M0 hasn’t increased in the same proportion. RBI conducted repos, gave out loans to banks, and increased its asset base, but some part of it came back to RBI in the form of deposits by banks and hence got added to the liability side. So in effect, the net loan given to banks was lower.

This could have probably happened due to less willingness of the banks to give out loans due to the risk of rising NPAs. Since these funds were available for cheap from RBI and for long term, they still went ahead with taking them but didn’t pass it on. As a result, some of the operations of RBI have not been effective enough to improve the overall credit growth in the economy.


In order to protect the economies from the downside of COVID, Central banks around the world have pumped in a lot of liquidity in the last four months through securities purchases, open market operations, etc. Central Banks around the world have two primary mandates, one to control inflation and other to promote growth. The effect of the balance sheet expansion on inflation needs to be seen in the coming months.