Category Archives: Contributions

CBDC-Skepticism-Skepticism

On their blog, Stephen Cecchetti and Kermit Schoenholtz voice doubts regarding the usefulness of universal central bank digital currency (U-CBDC). They argue:

… in an effort to retain their deposit base, commercial banks would surely raise the interest rate they offer to their customers relative to the rate on U-CBDC. … the introduction of U-CBDC would cause a substantial fraction of deposits to shift to the central bank, with the remainder prone to exit in a period of financial stress.

… if the Federal Reserve were to issue U-CBDC, we expect that this would not only hollow out the U.S. commercial banking system, but also destabilize the financial system in a range of countries.

… what would the central bank become? As its U-CBDC liabilities grow, its assets will need to expand as well. And, since commercial banking will have shrunk, so will the sources of private credit. At this point, the central bank turns into a commercial lender. It will become the state bank. In the allocation of funds, it will substitute increasingly for the discipline of private suppliers and markets, inviting political interference in the allocation of capital, slowing economic growth.

The problem with this argument is twofold: First, it disregards the possibility of liability substitution: Deposits may be replaced by other forms of bank debt. Second, bank balance sheet length is equated with lending capacity. But empirically, one is far from a perfect predictor of the other. For example, some countries rely much more heavily on bank credit than others, without obvious implications for intermediation and investment.

… we are compelled to ask what problem it is that U-CBDC is designed to solve. There seem to be three possibilities: the inability of monetary policymakers to set interest rates much below zero; the fact that paper currency is a vehicle for criminality; and the need to broaden financial access. On the first, we currently see little political support for interest rates that go meaningfully below zero. … As for criminal use of paper currency, as we argued in a recent post, there is a strong case for eliminating anything bigger than the equivalent of a U.S. 20-dollar note, but doing so does not imply a need for U-CBDC. Finally, there is financial access. Here, we see technology as providing solutions outside of the central bank [e.g., India’s program of providing costless, no-frills accounts].

Indeed, none of these arguments makes a convincing case for CBDC (especially since only the first one directly relates to the monetary system). But there are two more convincing arguments. First, it is preposterous to have governments prohibit citizens from using cash—the legal tender—for large transactions, and to force them into using privately issued money instead. Opening the central bank’s balance sheet to the public is a more liberal approach than restricting access to financial institutions.

Second, private money creation puts the central bank at a second mover disadvantage, effectively forcing it to serve as lender of last resort during liquidity crises or even as provider of bailout funds. Since the central bank is obliged to safeguard the payment system it cannot escape this disadvantage; regulatory measures—to the extent that they work and do not cause more harm—may alleviate moral hazard but cannot solve the time consistency problem completely. The more payments are conducted using CBDC the less can the banking sector and its customers dictate monetary policy.

To conclude, we see very little upside for central banks to issue retail digital currency. Instead, we see an enormous risk to the commercial banking system and political challenges for central banks. In the end, we wonder: would capitalism survive the introduction of U-CBDC? It may, but we are not at all sure.

As argued above, threats to capitalism also lurk in other corners.

Saga—A Global CBDC?

In the FT, Martin Arnold reports about plans to launch “Saga,” a reserves-backed krypto currency, maybe the closest substitute yet to central bank digital currency.

It is being launched by a Swiss foundation with an advisory board featuring Jacob Frenkel, … Myron Scholes, … and Dan Galai, co-creator of the Vix volatility index. The currency aims to avoid the wild price swings of many cryptocurrencies by tethering itself to reserves deposited in a basket of fiat currencies at commercial banks. Holders of Saga will be able to claim their money back by cashing in the cryptocurrency.

Saga also aims to avoid the anonymity of bitcoin that raises financial crime concerns with regulators and bankers. It will require owners to pass anti-money laundering checks and allow national authorities to check the identity of a Saga holder when required.

Deposits will be made in the IMF’s special drawing right basket of currencies, which is heavily weighted in US dollars.

Reserves for All come into sight.

Update (30 March): From the white paper:

Saga … deploys a reserve anchoring algorithm, serving to stabilise the currency in terms of leading state-issued currencies. As Saga gains trust, its reserve ratio will decrease in favour of an independent establishment of value.

???

“Für elektronisches Zentralbankgeld (In Favor of Central Bank Digital Currency),” NZZ, 2018

NZZ, March 15, 2018. PDF. Ökonomenstimme, March 19, 2018. HTML

  • CBDC is not the same as krypto currencies.
  • The case against CBDC is not at all obvious; CBDC has costs and benefits.
  • Switzerland should not dismiss CBDC too quickly.
  • (The title of the article is misleading, it is not mine. I argued for openness in the discussion rather than for adoption.)

Price Effects of Purchases of Greek Sovereign Debt by the ECB

In a CEPR discussion paper, Christoph Trebesch and Jeromin Zettelmeyer argue that

ECB bond buying had a large impact on the price of short and medium maturity bonds … However, the effects were limited to those sovereign bonds actually bought. We find little evidence for positive effects on market quality, or spillovers to close substitute bonds, CDS markets, or corporate bonds.

A multiple equilibria view of the crisis would probably suggest otherwise.

SNB Rejects Vollgeld and Questions ‘Reserves for All’

In the NZZ, Peter Fischer reports that SNB president Thomas Jordan rejects the Vollgeld initiative and stops short of endorsing the ‘reserves for all’ proposal.

… wehrt sich die Nationalbank auch gegen Vorschläge aus akademischen Kreisen, die von der Nationalbank fordern, nicht mehr nur Banken, sondern auch direkt den Schweizer Bürgern elektronisches Zentralbankgeld zur Verfügung zu stellen. Am einfachsten ginge dies, wenn jedermann bei der SNB ein Konto halten könnte. Jordan warnt davor, dass in einem solchen Fall die bewährte Arbeitsteilung zwischen Privatsektor und Zentralbank zur Disposition stünde. Die Fähigkeit der Banken, Kredite zu vergeben und Fristentransformation zu betreiben, würde eingeschränkt. Das Finanzsystem würde als Ganzes nicht sicherer, sondern unter Umständen sogar stärker destabilisiert, wenn es allen Anlegern möglich wäre, nach Belieben plötzlich in Sichtguthaben bei der Zentralbank zu flüchten. Zudem müsste die SNB etwa bei der Überprüfung der Kunden und ihrer Gelder neu Funktionen übernehmen, die sie bei den Banken besser aufgehoben sieht.

Allerdings konzediert auch Jordan, dass sich die technologischen Möglichkeiten im Bereich des digitalen Geldes rasant weiterentwickeln. Das hat das Potenzial, Zahlungssysteme und die Art, wie die Zentralbank ihre Geldpolitik betreiben kann, zu verändern. Jordan hielt in seiner Rede dazu lediglich fest, die SNB verfolge die Entwicklungen aufmerksam. Noch sind Kryptowährungen zu wenig verbreitet, um aus Sicht der Nationalbank ein ernsthaftes Problem darzustellen. Der E-Franken muss warten.

It is correct that ‘reserves for all’ could increase the elasticity of demand for reserves; if unchecked, this could also increase the risk of bank runs. But the central bank would not have to interact with the general public. And the fact that monetary reform would change the banking business is no decisive argument against such a change.

For my columns on the topic, select the ‘reserves for all’ tag.

Update: The text of Thomas Jordan’s speech, with references to NZZ articles of mine (1, 2).

“Regulierung und Wettbewerb (Regulation and Competition),” FuW, 2017

Finanz und Wirtschaft, December 13, 2017. PDF. Ökonomenstimme, December 15, 2017. HTML.

  • Regulation is about aligning private and social trade-offs.
  • When banks cause negative externalities, good regulatory interventions increase banks’ costs.
  • Externalities may differ across countries, so nothing suggests that regulation induced costs should be the same internationally.

Forecasting In Finance

It’s the time of the year when financial advisors feel obliged to produce forecasts for the coming year. This is often a waste of time, for the writers and the readers.

In the Wall Street Journal, James Mackintosh writes that

[f]orecasting is difficult, but this year showed exactly how pointless it can be: Markets performed opposite of virtually all predictions.

Previous blog post.

Neoliberalism—Narrow and Broad

In the Boston Review, Dani Rodrik discusses neoliberalism and argues that

mainstream economics shades too easily into ideology, constraining the choices that we appear to have and providing cookie-cutter solutions.

Rodrik emphasizes that sound economics implies context specific policy recommendations.

And therein lies the central conceit, and the fatal flaw, of neoliberalism: the belief that first-order economic principles map onto a unique set of policies, approximated by a Thatcher–Reagan-style agenda.

But he also stresses that the

principles [of economics] are not entirely content free. China, and indeed all countries that managed to develop rapidly, demonstrate their utility once they are properly adapted to local context. Conversely, too many economies have been driven to ruin courtesy of political leaders who chose to violate them.

In Rodrik’s view

[e]conomists tend to be very good at making maps, but not good enough at choosing the one most suited to the task at hand.

I have argued elsewhere that the main job of economists is to create maps, not to choose among them. See also the earlier post on Ariel Rubinstein’s excellent discussion of Rodrik’s recent book.

“Blockchain from a Central Bank Perspective”

An excellent conference organized by the Monetary Law Forum Switzerland focused on blockchain use cases from a central bank perspective. Program, links to slides.

I discussed the macroeconomic perspective and argued for “reserves for all.”

Some related links: Nivaura and Allen & Overy (backing Nivaura). OTC Swiss Blockchain, by Roman Bischoff.

On 100%-Equity Financed Banks

On his blog, John Cochrane argues that banks could, and should be 100% equity financed. His points are:

(1) There are plenty of safe assets—government debt—out there and banks do not need to “create” additional safe assets—deposits.

I share this view partly. First, I don’t know what amount of safe assets are sufficient from a social point of view. Second, I don’t consider government debt to be a safe asset. Third, debt has safety and liquidity properties. The question is not only whether assets/liabilities provide sufficient safety but also whether they serve as means of payment in the same way that base money and deposits do. The key question then is: Do we need inside money? I don’t think that macroeconomics has a convincing answer to this question at this point. But I note that some preeminent macroeconomists (NK) argue that banks can create means of payment better than some governments. If this is true then John’s first argument partly misses the point (although he addresses a related point later).

In spite of these reservations, I share John’s view that in the aggregate, safety cannot be created by means of financial intermediation. Projects and claims to future tax revenue generate returns. The financial system can slice and distribute these returns in different ways (creating safer claims by rendering other claims less safe) but it cannot create safety in the aggregate.

(2) Households and firms no longer need assets (i.e., liabilities of financial institutions) with a fixed nominal value in order to make payments.

I agree. As John writes:

In the past, the only way that a security could be “liquid” is if it promised a fixed payment. You couldn’t walk in to a drugstore in 1935, or 1965, and trade an S&P500 index share for a candy bar. Now you can. (And as soon as it is cleared by blockchain, it will be even faster and cheaper than credit cards.) There is no reason your debit card cannot be linked to an asset whose value floats over time.

(3) If society really needs more “safe” claims such claims can be created on banks rather than in banks. As John writes:

Let the banks issue 100% equity. Then, let most of that equity be held by a mutual fund, ETF, or bank holding company, and let those issue deposits, long term debt, and a small amount of additional equity. Now I have “transformed” risky assets into riskfree debt via leverage. But the leverage is outside the bank.

I agree. In an article (2013) I have described a proposal by BIS economists that relies on equity financed banks and levered bank holding companies to help solve the too-big-to-fail problem.

(4) Why should less “safe” bank liabilities lead to a credit crunch?

I share John’s puzzlement with the often heard claim that fewer bank deposits would go hand in hand with less credit. I believe that this claim mostly reflects confusion about the interplay between national saving and investment on the one hand, and bank balance sheets on the other. There is no mechanical link between the two but of course, there are many indirect links.

All in all, I am as skeptical as John about the view that bank created money obviously is important. I think that bank created money has some useful roles to play but they are more subtle. At the same time, I believe that bank created money is likely to stay with us even if it is not socially useful. Proposals to ban inside money therefore are unlikely to succeed (see my writing on Vollgeld).

Arguments for Interest Paying, Account Based, CBDC

In an NBER working paper and a column on VoxEU, Michael Bordo and Andrew Levin make the case for central bank issued digital currency (CBDC).

Bordo and Levin favor an account-based CBDC system (managed or supervised by the central bank) rather than central bank issued tokens in the blockchain.

They emphasize the Friedman rule and the fact that interest paying CBDC affords the possibility to satisfy the rule:

These … goals – … a stable unit of account and an efficient medium of exchange – seemed to be irreconcilable due to the impracticalities of paying interest on paper currency, and hence Friedman advocated a steady deflation rather than price stability. But the achievement of both goals has now become feasible using a well-designed CBDC.

Interest paying CBDC would imply—payments to account holders. Bordo and Levin do not discuss the political economy implications. They are also silent about the transition from the current system with deposits to a new system with interest bearing CBDC in which demand for deposits would drastically fall.

Bordo and Levin favor abolishing cash to render monetary policy most powerful. Eliminating the option to withdraw cash would also eliminate the lower bound on nominal interest rates and would render unnecessary any “inflation buffer” of 2 percent or so. Monetary policy thus could move from positive inflation targets to a price level target.

Their paper contains a long list of useful references.

 

The Cost of Identity Theft

The Economist reports that according to estimates,

undoing identity fraud can take an average of six months and 100 to 200 hours of a person’s time.

In addition there is the risk of substantial financial losses due to identity fraud.

Suppose a data breach exposes personal information of 1 million people. As a consequence, 0.1% of the affected persons suffer financial costs of $100 each, and all affected persons spend 100 hours to undo the damage. Suppose the average wage of the affected population is $15 per hour. The data breach then costs $100’000 + $1’500’000’000, of which the latter component is a pure social loss.

Why do we move in the direction of more and more centralized data storage? Why do customers accept this? Why do some institutions, including “virtual” companies and specific government authorities do not manage to provide the same security as traditional banks which have been doing relatively well in this respect? Is differential data security priced?

“Kunden sollten zwischen Sichtguthaben und elektronischem Notenbankgeld wählen können (Let People Choose Between Deposits and Reserves),” NZZ, 2017

NZZ, August 17, 2017. HTML, PDF. Longer version published in Ökonomenstimme, August 21, 2017. HTML.

  • The Vollgeld initiative may point to a problem but it does not propose a viable solution.
  • Even with Vollgeld, the time consistency friction with its Too-Big-To-Fail implication would persist.
  • A more flexible, liberal approach appears more promising.
  • It would give the general public a choice between holding deposits and reserves.
  • Financial institutions and central banks around the world are pushing in that direction.

Berlin, or Berlin Tegel, or Air Berlin?

Berlin Tegel airport (TXL). Air Berlin flight to Zurich. Passengers have been waiting in the cabin for about half an hour. Apparently, some disagreement or confusion among ground staff on how to deal with delayed passengers. Enter the Maître de Cabine:

Ja, meine Damen und Herren. Sie haben es sicher schon bemerkt: Hier wieder mal völliges Chaos in Berlin Tegel … (Well, Ladies and Gentlemen: As you surely realize, we have once again complete chaos here in Berlin Tegel …)

While Berlin (and specifically BER) has recently been a recurring source of embarrassment for the “Made in Germany” label the chaos at Tegel is surprising. And while passengers are used to frustration with their carriers (on the outbound Air Berlin flight with a connection at TXL, I waited 5 days for my luggage) it is unusual to see airline staff vent their frustration in front of customers in such honesty.

What’s the source of the problem: The airport, the airline, or the city?

The IMF “In Principle” Approves Funding For Greece

In the FT, Mehreen Khan reports about the IMF’s conditional acceptance to lend to Greece.

The IMF’s “agreement in principle” (AIP) tool draws on a practice where the fund is able to greenlight its involvement in a debtor country, conditional on the government and its creditors agreeing to future debt relief measures.

Of course, the dispute about the merits of debt relief is unresolved. The IMF thinks Greek debt is ‘unsustainable’ and the European creditors should bear more losses, earlier on while some Euro area countries disagree. (For the numbers, see here).

Earlier in July, the European Stability Mechanism had approved a new cash injection (FT). This followed a dodgy compromise in June, as reported by Jim Brunsden in the FT:

Euro area ministers and the International Monetary Fund unveiled a deal … that will … sav[e Greece] … from default this summer. The IMF will join the bailout as a partner but withhold any money until euro area finance ministers give more detail on what debt relief they might offer Athens. …

Euro-area policymakers have been trying to reconcile competing EU and IMF visions of the €86bn programme and, crucially, whether it will make Greece’s debts sustainable.

Programme conditions set by euro area governments in 2015 included budget surplus targets that the IMF said were punishingly ambitious and unlikely to be met. The fund set out a different vision: lower primary surplus targets for Athens, coupled with comprehensive pension and tax reform and, crucially, far-reaching debt relief.

At the centre of the puzzle was Germany’s finance minister, Wolfgang Schäuble, who has insisted that the IMF must join if Greece is going to continue receiving tranches of bailout aid — but has also resisted significant debt relief commitments.

Given that the fund could not join up unless convinced that Greece’s debts were being put on to a sustainable path, the euro area and IMF had to find another solution — and it came in the form of asking Athens to do more.

To give the IMF confidence that Greece could hit budget surplus targets set by the euro area, Athens was asked to widen its income tax base and cut pensions. The measures, adopted in May, are estimated to be worth about 2 percentage points of gross domestic product.

In the meantime, Greece plans to regain market access by 2018 (FT).

“Monetary Economic Issues Today,” Panel, 2017

Panel discussion with Ernst Baltensperger, Otmar Issing, Fritz Zurbrügg and Mark Dittli (moderator) on the occasion of the publication of the Festschrift in honour of Ernst Baltensperger, Bern, June 16, 2017. SNB press release. Video (SNB Forschungs-TV).

“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.