Category Archives: Contributions

“Die Vollgeld-Initiative und eine Alternative (The Swiss Sovereign Money Initiative, and an Alternative),” SNB, 2017

In: Thomas Moser, Carlos Lenz, Marcel Savioz and Dirk Niepelt, editorial committee, Monetary Economic Issues Today, Festschrift in Honour of Ernst Baltensperger, Swiss National Bank/Orell Füssli, Zürich, June 2017. PDF of draft.

The sovereign money initiative (Vollgeldinitiative) seeks to gain greater control over the money and credit supply, to increase financial stability and to achieve a fairer distribution of seigniorage income. The initiative’s suggested approach – a ban on active money creation – is inefficient and may even prove ineffective, as it fails to address the core problems. A variant of the initiative, which would allow the public access to electronic central bank money on a voluntary basis, would offer greater benefit at lower cost.

“Monetary Economic Issues Today,” Orell Füssli, 2017

Festschrift in Honour of Ernst Baltensperger, Swiss National Bank/Orell Füssli, Zürich, June 2017, with Thomas Moser, Carlos Lenz, and Marcel Savioz, editorial committee. Publisher’s website.

From the publisher’s website:

»Eine Welt ohne ein gut funktionierendes Zahlungssystem, ohne Geld- und andere Wertaufbewahrungsanlagen, ohne zuverlässige Recheneinheit, das wäre eine Welt mit einem viel tieferen Wohlstandsniveau,in der wir nicht mehr leben möchten.«
Ernst Baltensperger

Ursachen und Folgen der Finanzkrise sind komplex. Zentralbanken und Regulatoren sahen sich gezwungen, in vielerlei Hinsicht unbekanntes Terrain zu betreten. Die ökonomische Forschung wurde mit vielen neuen, oft grundlegenden Fragen zum Finanzsystem und zur Wirtschaftspolitik konfrontiert und ringt bis heute um Antworten.

Diese Festschrift gibt zehn Jahre nach dem Ausbruch der Finanzkrise einen Einblick in die Fragen, mit denen sich die monetäre Ökonomie heute befasst. Sie wird von der Schweizerischen Nationalbank zum 75. Geburtstag von Ernst Baltensperger – einem international renommierten Experten der Geldpolitik und Geldtheorie – herausgegeben.

Elektronisches Geld, unkonventionelle Geldpolitik, negative Zinsen – mit welchen Fragen befasst sich die Wirtschaftswissenschaft heute, und welche Antworten liefert sie?

27 Beiträge von Experten der Makro-, Geld-, Banken und Finanzmarktökonomie für ein besseres Verständnis der Zusammenhänge und Strukturen.

Die kurze und allgemein verständlichen Texte sind für den interessierten Laien – auf Deutsch, Französisch oder Englisch verfasst.

Money and Credit in Germany

In its April 2017 Quarterly Report, the Deutsche Bundesbank discusses the role of banks in the creation of money. Findings from a wavelet analysis indicate that in Germany, money and credit move in parallel in the long run.

In an appendix, the report mentions possible welfare costs of curbing maturity transformation, with reference to Diamond and Dybvig’s work. This is not convincing. Unlike in the typical (microeconomic) banking model, aggregate central bank provided money need not be scarce, so there is no a priori social need for the private sector to create money.

Does Greece Need Official Debt Relief?

In a Peterson Institute working paper, Jeromin Zettelmeyer, Eike Kreplin, and Ugo Panizza conclude that the answer to that question depends on your assumptions.

The authors compare several scenarios, including

  • scenarios A–C, the baseline scenario of the European institutions and two more pessimistic variants;
  • scenario I which underlies the IMF reasoning and which assumes that “Greece will not undertake the structural reforms needed to achieve higher potential growth”;
  • and scenario D, which corresponds to what Greece committed to when the third program was agreed, and which represents the German position.

They assume that interest rates on privately held debt rise with the debt-to-GDP ratio, and they use two “sustainability” metrics: The debt-to-GDP ratio (should fall), and gross financing needs as a share of GDP (should be smaller than 20%).

When running Monte Carlos simulations, the authors find that for each scenario, the assumptions about growth and primary surpluses are consistent with the conclusions drawn by the different institutions:

  • In A (borderline) and D, debt is “sustainable.”
  • Not so in B, C, and I, due to “accelerating substitution of official debt by more expensive borrowing from private sources”.

The authors then evaluate the plausibility of the scenario assumptions. They conclude that “international evidence does not support an adjustment path that envisages a primary surplus of above 3.5 percent for more than three to four years on a continuous basis and for more than seven years on an average basis” rendering B and C the most plausible scenarios, and suggesting that the debt is “unsustainable.”

In reaching their conclusions, the authors assume that primary surpluses in Greece will react to debt, inflation, and growth in line with the experience in other (developed) economies. (This means, for example, that surpluses rise as the debt burden increases, which seems to contradict the notion of debt overhang.) This is unconvincing, of course, if one takes the view underlying scenario D which presumes that feasible promises are kept. Or stated differently: Greece might well be able but not willing to pay—after all, in this very case official creditor intervention could have made sense in the first place although private lenders charged high interest rates. (With Harris Dellas, we make this argument precise in a paper in the Journal of International Economics.) Related, one can think of many reasons why the historical experience in other countries may be uninformative for the Greek case. The authors address one concern: They focus on episodes with very high debt-to-GDP ratios and find that in these cases, primary surpluses are maintained for longer. Moreover, there is the important question of measurement: The Greek debt-to-GDP ratio is not easily comparable with the ratio in other countries, see here and here, and most likely overstated.

Zettelmeyer, Kreplin, and Panizza make the case for a delay of Greece’s return to capital markets. In the conclusions, they write that

the debt relief measures put on the table by the Eurogroup in May 2016 could be sufficient to restore debt sustainability, but only if these measures are taken to an extreme. This means accepting an extremely long maturity extension of EFSF debts. In addition, it requires either substantial additional interest rate deferrals, or locking in significantly lower funding costs and hence lower interest rates than the EFSF currently expects, or a combination of both. While these measures are feasible within the red lines described by the Eurogroup, they are likely to be politically and/or technically difficult. Unless the EFSF manages to eke out substantial extra interest relief through creative long-term funding operations, its exposure to Greece will likely have to rise, possibly for decades, before it starts falling. A private sector creditor would not accept this type of restructuring because it gives the debtor country a strong incentive to default (or at least renegotiate) when the debt is at its peak.

… one way out of this dilemma would be to delay Greece’s return to capital markets, continuing to finance Greece through ESM programs until its private sector spreads are much lower than they are now. … this approach would lower the total need for debt relief and/or fiscal effort required to restore Greece to debt sustainability. While it would lead to a significant increase in official creditor exposure to Greece—requiring perhaps €100 billion of extra ESM financing—this is less than the rise in EFSF exposure that would be required in the Eurogroup’s approach, which aims to return Greece to private capital markets in 2018 while relying mainly on EFSF maturity extensions and interest rate deferrals … total official exposure to Greece would decline faster if ESM financing were to continue than if it were to end in 2018.

Importantly, they also point to the incentive effects of debt restructuring:

If [the threat of Grexit is essential to maintain incentives for reform] keeping the sword of Grexit … would help reduce debt levels only so long as Greece is being financed with cheap official funds. If, however, Greece returns to capital markets, any beneficial incentives of this approach would likely be offset by the risk premiums that private lenders would charge to a country whose euro membership remains at risk.

The official creditors will have to make up their minds: Not only the return on their lending is at stake, but also reform in Greece.

John Cochrane and Janet Yellen

On his blog, John Cochrane discusses the possibility of an alternative monetary policy regime in which the Fed tightly controls expected inflation. He states, repeatedly, that given our current understanding of the matter he would refrain from implementing such a regime if he became Fed chair (rather than stating that he would not currently advise to move in that direction). Given that Janet Yellen is expected to retire next year and John Cochrane is mentioned as a possible successor, I find the statement remarkable.

Money, Banking, and Dreams

In another excellent post on Moneyness, J P Koning likens the monetary system to the plot in the movie Inception, featuring

a dream piled on a dream piled on a dream piled on a dream.

Koning explains that

[l]ike Inception, our monetary system is a layer upon a layer upon a layer. Anyone who withdraws cash at an ATM is ‘kicking’ back into the underlying central bank layer from the banking layer; depositing cash is like sedating oneself back into the overlying banking layer.

Monetary history a story of how these layers have evolved over time. The original bottom layer was comprised of gold and silver coins. On top this base, banks erected the banknote layer; bits of paper which could be redeemed with gold coin. The next layer to develop was the deposit layer; non-tangible book entries that could be transferred by order from one person to another.

The foundation layer has changed over time:

One of the defining themes of modern monetary history has been the death of the original foundation layer; precious metals. … as central banks chased private banks from the banknote layer … and then gradually severed the banknote layer from the gold layer. By 1971, … [b]anknotes issued by the central bank had become the foundation layer. The trend towards a cashless world is a repeat of this script, except instead of the gold layer being slowly removed it is the banknote layer.

Fintech improves the efficiency of the layer arrangement and its connections. It also adds new layers: For instance, some payments made via mobile phone effectively transfer claims on deposits. And it may circumvent layers:

In U.K., the Bank of England is considering allowing fintech companies to bypass the banking layer by offering them direct access to the bottom-most central banking layer.

In contrast, a krypto currency like bitcoin establishes a new foundation layer, on which new layers may be built:

Even now there is talk of a new layer being developed on top of the original bitcoin foundation, the Lightning network. The idea here is that the majority of payments will occur in the Lightning layer with final settlement occurring some time later in the slower Bitcoin layer.

I fully agree with this characterization. In addition to the theme emphasized by Koning—adding layers—I would also stress the theme of untying higher-level layers from lower ones: Central bank money typically is no longer backed by gold; deposits typically are not fully backed by notes; and mobile phone credits may no longer be backed by deposits. The process of untying layers relies on social conventions and trust, and it is fragile. Important questions concern the cost of such fragility, and its necessity. Fragility is not necessary when the social cost of liquidity provision at the foundation layer is negligible.

Economics as Bullshit Detection

In separate blog posts, Russ Roberts and John Cochrane have called for humility on the part of economists. Asking “What do economists know?,” Roberts and Cochrane point out—correctly—that economics is not as strong on quantification as some economists and many pseudo economists pretend, and as is often expected from economists.

Economics is not the same as applied statistics although the latter can help clarify, at least to some extent, the empirical relevance of economic theories. Correlation does not imply causation. Identifying assumptions that aim at establishing causal claims based on correlation analysis deserve skepticism, especially when the process that led to the empirical results remains in the dark (see notes on replicability here, here, here).

Sound economics heavily relies on consistency checking, or bullshit detection in Cochrane’s words. It insists on keeping accounting identities in mind and never forgetting about incentives. And it is acutely aware of the fact that good models are nothing more than consistent stories—but at least they are consistent stories.

“Vollgeld, the Blockchain, and the Future of the Monetary System”

Presentation at the Liechtenstein Institute about the Vollgeld initiative, the blockchain revolution, and their possible effects on banks and the monetary system.

Report in Liechtensteiner Vaterland, February 1, 2017. HTML.

Interview in Wirtschaft Regional, February 4, 2017. PDF.

Ageing Economies Grew Faster

That’s what Daron Acemoglu and Pascual Restrepo document in an NBER working paper.

Figure 2 [below] provides a glimpse of the relevant pattern by depicting the raw correlation between the change in GDP per capita between 1990 and 2015 and the change in the ratio of the population above 50 to the population between the ages of 20 and 49. … even when we control for initial GDP per capita, initial demographic composition and differential trends by region, there is no evidence of a negative relationship between aging and GDP per capita; on the contrary, the relationship is significantly positive in many specifications.

In an article published in 2012 with Martín Gonzalez-Eiras (see also the VoxEU column), we provide a theory that can account for this finding.

“Kosten eines Vollgeld-Systems sind hoch (Costly Sovereign Money),” Die Volkswirtschaft, 2016

Die Volkswirtschaft 1–2 2017, December 21, 2016. HTML, PDF.

Banning inside money creation would be unnecessary, insufficient, not enforceable, and besides the point. The way forward is to grant everyone access to central bank reserves and let investors choose between reserves and deposits.

“Wer hat Angst vor Blockchain? (Who’s Afraid of the Blockchain?),” NZZ, 2016

NZZ, November 29, 2016. HTML, PDF. Longer version published on Ökonomenstimme, December 14, 2016. HTML.

Central banks are increasingly interested in employing blockchain technologies, and they should be.

  • The blockchain threatens the intermediation business.
  • Central banks encounter the blockchain in the form of new krypto currencies, and as the technology underlying new clearing and settlement systems.
  • Krypto currencies bear the risk of “dollarization,” but in the major currency areas this risk is still small.
  • New clearing and settlement systems benefit from central bank participation. But central banks benefit as well; those rejecting the new technology risk undermining the attractiveness of the home currency.

America: Many Open Questions

US voters have abandoned political correctness. Have they also abandoned decency?

They have clearly voted for “change.” Eight years ago, they did the same.

They have voted against competence according to common standards. Maybe because they perceived competence to be correlated with “no change.” Maybe because they viewed competence as a weakness. Picking non-competent leaders can pay off in specific bargaining situations. In general, it is unlikely to pay off in the longer term.

Race was key. Whites strongly favored Trump over Clinton, and non-whites strongly favored Clinton over Trump. Non-whites will continue to grow as a share of the voting population.

Voters were unhappier than ever with the two candidates. Are they sufficiently unhappy to trigger the beginning of the end of the system of presidential primaries?

Some members of the old elite have lost. Who are the new members to follow them? How will the elites respond to this experience? By becoming more inclusive? Or by protecting themselves from the mob?

The new vision of American foreign policy is less clear than ever. Will the traditional US-allies rise to the challenge? European aerospace and defense stocks. US aerospace and defense stocks.

We have seen in the past how major political shocks can affect a country’s attractiveness for foreigners, its role as a cultural and scientific center, and in the longer run, its international influence. Will we see the same in the US?

How will the American election affect how other countries view the case for or against democracy (see earlier post)?

In the New York Times, Paul Krugman fears that America is a failed state and society. He writes

There turn out to be a huge number of people — white people, living mainly in rural areas — who don’t share at all our idea of what America is about. For them, it is about blood and soil, about traditional patriarchy and racial hierarchy. And there were many other people who might not share those anti-democratic values, but who nonetheless were willing to vote for anyone bearing the Republican label.

“Central Banking and Bitcoin: Not yet a Threat,” VoxEU, 2016

VoxEU, October 19, 2016. HTML.

  • Central banks are increasingly interested in employing blockchain technologies.
  • The blockchain threatens the intermediation business.
  • Central banks encounter the blockchain in the form of new krypto currencies, and as the technology underlying new clearing and settlement systems.
  • Krypto currencies bear the risk of “dollarization,” but in the major currency areas this risk is still small.
  • New clearing and settlement systems benefit from central bank participation. But central banks benefit as well; those rejecting the new technology risk undermining the attractiveness of the home currency.
  • See the original blogpost.

“Causes of the Transformation of the US Fiscal System in the 1930s,” VoxEU, 2016

VoxEU, October 11, 2016, with Martin Gonzalez-Eiras. HTML.

  • The US fiscal system underwent a radical transformation around the time of the Great Depression.
  • Perceived cost differences of revenue collection across levels of government, due to general equilibrium effects, can partly explain the rise of tax centralization and intergovernmental grants.
  • We develop a micro-founded general equilibrium model that blends politics and macroeconomics. (See the working paper.)

Secular Stagnation Skepticism

I was asked to play devil’s advocate in a debate about “secular stagnation.” Here we go:

Alvin Hansen, the “American Keynes” predicted the end of US growth in the late 1930s—just before the economy started to boom because of America’s entry into WWII. Soon, nobody talked about “secular stagnation” any more.

75 years later, Larry Summers has revived the argument. Many academics have reacted skeptically; at the 2015 ASSA meetings, Greg Mankiw predicted that nobody would talk about secular stagnation any more a year later. But he was wrong; at least in policy circles, people still discuss and worry about secular stagnation. As we do tonight.

In his 2014 article, Summers does not offer a definition of “secular stagnation,” in fact the article barely mentions the term. But Summers tries to offer a unifying perspective on pressing policy questions. The precise elements of this perspective change from one piece in the secular stagnation debate to the other.

Summers (2014) emphasizes a conflict between growth and financial stability: He argues that before the crisis, growth was built on shaky foundations that resulted in financial instability; and after the crisis, projections of potential output were revised downwards.

Summers frames this conflict in terms of shifts in the supply of savings on the one hand and investment demand on the other, which are reflected in lower real interest rates.

He identifies multiple factors underlying these shifts:

  • The legacy of excessive leverage
  • Lower population growth
  • Redistribution to households with a higher propensity to save
  • Cheaper capital goods
  • Lower after tax returns due to low inflation
  • Global demand for CB reserves
  • Later added: Lower productivity growth
  • Risk aversion which creates a wedge between lending and borrowing rates

All this, Summers argues, is aggravated by the fact that nominal interest rates are constrained by the ZLB, and that low rate policies induce risk seeking and Ponzi games—that is, new financial instability—by investors.

I am not convinced by the diagnosis. First, I feel uncomfortable with “secular” theories of “lack of aggregate demand.” I guess I believe in some variant of Says’ law; I agree that the massive surge of CB reserves is relevant in this context but even this cannot rationalize “secular” demand failure (presumably, the surge will stop and may even be reversed or prices will adjust).

Second, I disagree on population growth. We have two workhorse models in dynamic macroeconomics, the Ramsey growth model and the overlapping generations model. In the former, population growth does not affect the long-term real interest rate (R = gamma^sigma / beta). In the latter, population growth can have an effect by changing factor prices; but in this model the real interest rate is unrelated to the economy’s growth rate.

Third, productivity growth clearly is relevant. Gordon would support the view that the outlook is bleak on that front, others would disagree and predict the opposite. We will know only in a few decades.

Fourth, domestic factors cannot be the dominant explanation. With open financial markets, global factors shape savings and interest rates.

Fifth, real interest rates have trended downward for thirty years, including in decades when no one worried about “demand shortfalls.” (Nominal rates trended downward too, but that is easy to explain.) But it is true that historically, low real rates tend to coincide with low labor productivity growth. Over the last years, low real rates have gone hand in hand with a stock market boom; this suggests financial frictions or increased risk aversion.

There are competing narratives of what is going on. For example, Kenneth Rogoff argues that we are experiencing the usual deleveraging process of a debt supercycle; in Rogoff’s view, the secular stagnation hypothesis does not attribute sufficient importance to the financial crisis. Bob Hall has identified an interesting structural break: Since 2000, households and in particular, the teenagers and young adults in those households supply less labor (they play video games instead).

Summers discusses three policy strategies in his 2014 article:

  • Wait and see (he associates this with Japan)
  • Policies that lower nominal interest rates to stimulate demand; Summers mentions various risks associated with this strategy, related to bubbles, redistribution, or zombie banks
  • Fiscal and other stimulus policies: Fiscal austerity only if it strongly fosters confidence; regulatory and tax reform; export promotion, trade agreements, and beggar thy neighbor policies; and public investment

I am not convinced by the medicine either. In general, I miss a clear argument for why policy needs to respond. We might be very disappointed about slower future growth. But this does not imply that governments should intervene. The relevant questions are whether we identify market failures; whether governments can improve the outcome (or whether they introduce additional failures); and whether it’s worth it. And this must be asked against the background that some of the trends described before may reverse sooner than later. For example, aggregate savings propensities are likely to fall when baby boomers start to dis-save, and Chinese savings have started to ebb.

More specifically, the Japanese approach over the last decades strikes me as following the third, stimulus strategy favored by Summers rather than the first, wait and see strategy that he dislikes. So we should discount this argument. (In any case, Japan might be a bad example since its per capita growth is not that low.) I agree that I don’t see much scope on the monetary policy side. Monetary policy also has the problem that interest rate changes have income in addition to substitution effects, and that it has lost effectiveness, both fundamentally and in terms of public perceptions. I believe that our views on monetary policy transmission will dramatically change in the next ten years (think for example about the discussion on Neo-Fisherianism). The interesting thing about Summers’ third, stimulus strategy is that it is much less demand focused than conventional wisdom would have it (think of regulation and taxes and confidence to some extent as well).

Finally, the argument for public investment as the instrument of choice is much weaker than Summers suggests. One can think of a situation where private investment is held back for various reasons and as a consequence, interest rates are low and public investment is “cheap.” Nevertheless, the optimal policy response need not be to invest; it could be preferable to eliminate the friction on private investment. For example, with excessively tight borrowing constraints, tax cuts for private investors could be appropriate. If we believe that demographics is the problem then investment could be counter productive as well (dynamic inefficiency in the OLG context). And public investment as an instrument for stimulus is problematic for politico-economic reasons. Low interest rates do not imply that debt is “for free.” It indicates that the supply of risk-free savings is ample, for example because markets are very concerned about tail risks.


Lawrence H. Summers (2014), “U.S. Economic Prospects: Secular Stagnation, Hysteresis, and the Zero Lower Bound,” Business Economics 49(2), 65—73.


Have Banks Become Less Risky?

In BPEA, Natasha Sarin and Larry Summers argue that bank stock has not:

… we find that financial market information provides little support for the view that major institutions are significantly safer than they were before the crisis and some support for the notion that risks have actually increased. …

… financial markets may have underestimated risk prior to the crisis … Yet we believe that the main reason for our findings is that regulatory measures that have increased safety have been offset by a dramatic decline in the franchise value of major financial institutions, caused at least in part by these new regulations.

This table is taken from their paper:


However, their finding need not be as bad as it sounds. After all, bank regulators intended to insulate taxpayers against bank failure and to render the financial system more shock proof, not bank equity.

How Does the Blockchain Transform Central Banking?

The blockchain technology opens up new possibilities for financial market participants. It allows to get rid of middle men and thus, to save cost, speed up clearing and settlement (possibly lowering capital requirements), protect privacy, avoid operational risks and improve the bargaining position of customers.

Internet based technologies have rendered it cheap to collect information and to network. This lies at the foundation of business models in the “sharing economy.” It also lets fintech companies seize intermediation business from banks and degrade them to utilities, now that the financial crisis has severely damaged banks’ reputation. But both fintech and sharing-economy companies continue to manage information centrally.

The blockchain technology undermines the middle-men business model. It renders cheating in transactions much harder and thereby reduces the value of credibility lent by middle men. The fact that counter parties do not know and trust each other becomes less of an impediment to trade.

The blockchain may lend credibility to a plethora of transactions, including payments denominated in traditional fiat monies like the US dollar or virtual krypto currencies like Bitcoin. An advantage of krypto currencies over traditional currencies concerns the commitment power lent by “smart contracts.” Unlike the money supply of fiat monies that hinges on discretionary decisions by monetary policy makers, the supply of krypto currencies can in principle be insulated against human interference ex post and at the same time conditioned on arbitrary verifiable outcomes (if done properly). This opens the way for resolving commitment problems in monetary economics. (Currently, however, most krypto currencies do not exploit this opportunity; they allow ex post interference by a “monetary policy committee.”) A disadvantage of krypto currencies concerns their limited liquidity and thus, exchange rate variability relative to traditional currencies if only few transactions are conducted using the krypto currency.

Whether blockchain payments are denominated in traditional fiat monies or krypto currencies, they are always of relevance for central banks. Transactions denominated in a krypto currency affect the central bank in similar ways as US dollar transactions, say, affect the monetary authority in a dollarized economy: The central bank looses control over the money supply, and its power to intervene as lender of last resort may be diminished as well. The underlying causes for the crowding out of the legal tender also are familiar from dollarization episodes: Loss of trust in the central bank and the stability of the legal tender, or a desire of the transacting parties to hide their identity if the central bank can monitor payments in the domestic currency but not otherwise.

Blockchain facilitated transactions denominated in domestic currency have the potential to affect central bank operations much more directly. To leverage the efficiency of domestic currency denominated blockchain transactions between financial institutions it is in the interest of banks to have the central bank on board: The domestic currency denominated krypto currency should ideally be base money or a perfect substitute to it, directly exchangeable against central bank reserves. For when perfect substitutability is not guaranteed then the payment associated with the transaction eventually requires clearing through the traditional central bank managed clearing mechanism and as a consequence, the gain in speed and efficiency is relinquished. Of course, building an interface between the blockchain and the central bank’s clearing system could constitute a first step towards completely dismantling the latter and shifting all central bank managed clearing to the former.

Why would central banks want to join forces? If they don’t, they risk being cut out from transactions denominated in domestic currency and to end up monitoring only a fraction of the clearing between market participants. Central banks are under pressure to keep “their” currencies attractive. For the same reason (as well as for others), I propose “Reserves for All”—letting the general public and not only banks access central bank reserves (here, here, here, and here).

Banking on the Blockchain

In the NZZ, Axel Lehmann offers his views on the prospects of blockchain technologies in banking. Lehmann is Group Chief Operating Officer of UBS Group AG.

New possibilities:

  • Higher efficiency; lower cost; more robustness and simpler processes; real-time clearing;
  • no need for intermediaries; information exchange without risk of interference
  • automated “smart contracts;” automated wealth management;
  • more control over transactions; better data protection;
  • improved possibilities for macro prudential monitoring.


  • Speed; scalability; security;
  • privacy;
  • smart contracts require new contract law;
  • interface between traditional payments system and blockchain payment system.

Lehmann favors common standards and he points out that this is what is happening (R3-consortium with UBS, Hyperledger project with Linux foundation).

Related, Martin Arnold reported in the FT in late August that UBS, Deutsche Bank, Santander, BNY Mellon as well as the broker ICAP pursue the project of a “utility settlement coin.” Here is my reading of what this is:

  • The aim seems to be to have central banks on board; so USCs might be a form of reserves (base money). The difference to traditional reserves would be that USCs facilitate transactions using distributed ledgers rather than traditional clearing and settlement mechanisms. (This leads to the question of the appropriate interface between the two systems posed by Lehmann.)

But what’s in for central banks? Would this be a test before the whole clearing and settlement system is revamped, based on new blockchain technology? Don’t central banks fear that transactions on distributed ledgers might foster anonymity?

Should the Fed Reduce the Size of its Balance Sheet?

On his blog, Ben Bernanke discusses the merits of the Fed’s strategy to slowly reduce the size of its balance sheet to pre crisis levels. Bernanke (with reference to a paper by Robin Greenwood, Samuel Hanson and Jeremy Stein) suggests that this strategy should be reconsidered:

First, the large balance sheet provides lots of safe and liquid assets for financial markets. This might strengthen financial stability. (DN: In my view, there are also reasons to expect the opposite.)

Second, a larger balance sheet can help improve the workings of the monetary transmission mechanism, in particular if non-banks can deposit funds at the Fed. Currently, the Fed accepts funds from private-sector institutional lenders such as money market funds, through the overnight reverse repurchase program (RRP). (DN: I agree. As I have argued elsewhere, access to central bank balance sheets should be broadened.)

Third, with a large balance sheet and thus, large bank reserve holdings to start with, it could be easier to avoid “stigma” in the next financial crisis when banks need to borrow cash from the Fed but prefer not to in order not to signal weakness. (DN: Like the first, this third argument emphasizes banks’ needs. In my view, monetary policy should not emphasize these needs too much because it is far from clear whether bank incentives are sufficiently aligned with the interests of society at large.)

Bernanke also discusses the reasons why the Fed does want to reduce the balance sheet size.

First, in a financial panic, programs like the RRP could result in market participants depositing more and more funds at the Fed until the interbank market would be drained of liquidity. But these programs could be capped.

Second, a large balance sheet increases the risk of large fiscal losses for the Fed and thus, the public sector. Losses could trigger a legislative response and undermine the Fed’s policy independence. But these risks could be kept in check if the Fed invested in government paper that constitutes a close substitute to cash, such as three year government debt. (DN: But why, then, shouldn’t financial market participants hold three year government debt rather than reserves at the Fed? Because cash is much more liquid than government debt … But what does this mean?)