“Libra oder lieber nicht? (Libra, or Better Not?),” NZZ, 2019

NZZ, 10 July 2019, with Corinne Zellweger-Gutknecht. PDF.

Libra is supposed to be backed; the returns on the securities backing it are going to be distributed among the Libra partners; and Libra’s price is supposed to be managed by a network of market makers. We don’t know much more. Will market makers have the incentive to deliver?

See also the longer article in Jusletter.

“On the Equivalence of Private and Public Money,” JME, 2019

Accepted for publication in the Journal of Monetary Economics, with Markus Brunnermeier. (NBER wp.)

When does a swap between private and public money leave the equilibrium allocation and price system unchanged? To answer this question, the paper sets up a generic model of money and liquidity which identifies sources of seignorage rents and liquidity bubbles. We derive sufficient conditions for equivalence and apply them in the context of the “Chicago Plan”, cryptocurrencies, the Indian de-monetization experiment, and Central Bank Digital Currency (CBDC). Our results imply that CBDC coupled with central bank pass-through funding need not imply a credit crunch nor undermine financial stability.

On the Gains from Integration in the European Union

In an interview with the NZZ, Gabriel Felbermayr explains where the European Union adds value, and where it doesn’t. The key points:

  • Free trade for goods and services as well as capital and labor mobility are partial substitutes. Partial, because factor mobility fosters trade and technology transfer.
  • Estimates suggest that free trade and capital mobility generate more than 80% of the welfare gains from European integration.
  • Even labor mobility does not require admission into welfare systems. “… der Nutzen uniformer Regeln im Güter-, Dienstleistungs- und Kapitalbereich [ist] sehr hoch … Dies stimmt indes nicht für das Sozial-, Arbeits- und Steuerrecht, auch innerhalb der EU. … Politisch will die EU die Harmonisierung im Arbeits- und Sozialbereich möglichst ausdehnen, um den Wettbewerb zwischen den Staaten zu disziplinieren. Das ist traditionell ein französisches Anliegen.”
  • The EU’s budget is mis-allocated: “Wenn man das EU-Budget ansieht, gehen 40% in die Landwirtschaft. Es gibt keinen einzigen guten Grund, dass das auf der zentralen Ebene angesiedelt werden muss. Es widerspricht dem Subsidiaritätsprinzip.”
  • What is missing: Capital requirements for government bonds held by banks; a European Monetary Fund; Germany’s long-overdue investments in cross-border rail and energy networks; more EUIs.
  • What is not missing: European redistribution mechanisms disguised as “insurance” schemes. “In den EU-Ländern ist die Qualität der Institutionen sehr unterschiedlich. Das erklärt, warum die Wirtschaftsleistung in manchen Ländern hoch, in anderen niedriger ist. Wir können nicht so tun, als hätten Griechenland und Italien immer Pech, die Niederlande und Deutschland immer Glück. Versicherungen sind gut bei zufälligen Schocks. Die sind aber nicht das Problem.”

Jean-Pierre Landau Argues for CBDC

In the FT, Jean-Pierre Landau argues that central banks should introduce central bank digital currency:

A CBDC would protect the pre-eminence of public money in a digitalised economy. It would maintain effective convertibility of private into public money and provide a defence against digital dollarisation.

For that purpose, a CBDC should be as close as possible to cash. It should be a complement, not a substitute, to bank deposits. It should not carry interest. Whether it should be anonymous, as cash currently is in certain limits, is a fundamental social choice. It must be openly debated as the digitalisation of money forces us to reconsider and rethink the place of privacy in our lives.

“Das Geschäftsmodell hinter Libra (Libra’s Business Model),” Jusletter, 2019

Jusletter, 1 July 2019, with Corinne Zellweger-Gutknecht. PDF.

Libra is supposed to be backed; the returns on the securities backing it are going to be distributed among the Libra partners; and Libra’s price is supposed to be managed by a network of market makers. We don’t know much more. Will market makers have the incentive to deliver?

“Digitales Zentralbankgeld (Central Bank Digital Currency),” FuW, 2019

Finanz und Wirtschaft, June 29, 2019. PDF. Related article in Oekonomenstimme, July 9, 2019. HTML.

    • It is not central bank digital currency (CBDC) per se which might act as a game changer in financial markets. What will be key is how central banks accommodate the introduction of CBDC.
    • In principle, this accommodation can go very far, to the point where the introduction of CBDC does not affect macroeconomic outcomes.
    • But such complete accommodation is unlikely. On the one hand, central banks will want to exploit the new monetary policy options that CBDC opens up; that is, central banks will not choose to fully accommodate.
    • On the other hand, the introduction of CBDC increases transparency and this will increase political pressure; as a consequence, central banks will not be able to fully accommodate.

The Bank of England Welcomes Fintech

In the FT, Chris Giles, Caroline Binham, and Delphine Strauss report about plans of the Bank of England to let fintech companies

bank at Threadneedle Street and thereby offer payments systems on a level playing field with commercial banks.

The editorial board of the FT welcomes the plans; it seems to have in mind not only competition but also “synthetic” CBDC:

By offering fintech companies access to the BoE’s vaults, the governor may inject much-needed competition into the sector. What must follow is proactive regulation …

Commercial banks have traditionally had exclusive access to deposits at the UK’s central bank, offering them a competitive advantage through cheap banking services. … Another potential advantage for consumers is they could be paid the central bank’s often favourable interest rate directly — rather than relying on traditional banks to pass on rate rises.

Mark Carney outlined the plans in his Mansion House speech. Here are some excerpts from the section on digital finance:

… the Faster Payment System (FPS) launched a decade ago has made payments quicker (within two hours) and more cost effective by encouraging direct bank-to-bank transfers.

While mobile app PayM uses FPS to facilitate direct bank-to-bank payments between individuals via text, it requires both the sender and recipient to be signed up to the third party service. But few are. And FPS is not yet used for in-store or online purchases as the infrastructure required at the point of sale does not reliably exist in the UK.

In these regards, the UK is still a long way behind countries such as Sweden, the Netherlands and India …

The revolution of payments may not be driven by the old bank-based systems … Major changes are on the horizon … That’s why the Bank fully supports the Payments Strategy Review the Chancellor has launched this evening.

To support private innovation and to empower competition, the Bank is levelling the playing field between old and new. This means allowing competitors access to the same resources as incumbents while holding the same risks to the same standards.

… we are now making it easier for a broad set of firms to plug in and compete with more traditional providers. In July 2017, we became the first G7 central bank to open up access to our payment services to a new generation of non-bank PSPs. …

Responding to demands from innovators, the RTGS rebuild will also now provide API access to users to read and write payments data, as well as implementing a system whereby each payment will be tagged with information in a standardised format across the world. This global messaging standard will speed up settlement both domestically and across borders.

… Today, the Bank of England is announcing plans to consult on opening access to our balance sheet to new payment providers. Historically, only commercial banks were able to hold interest-bearing deposits, or reserves, at the Bank. …

From the Bank’s perspective, expanding access can improve the transmission of monetary policy and increase competition. It can also support financial stability by allowing settlement in the ultimate risk free asset, and reducing reliance on major banks. Users should benefit from the reduced costs and increased certainty that comes with banking at the central bank. …

This access could empower a host of new innovation. … settlement systems using distributed ledger technology … consortia, such as USC, propose to issue digital tokens that are fully backed by central bank money, allowing instant settlement. This could also plug into ‘tokenised assets’ – conventional securities also represented on blockchain—and smart contracts. This can drive efficiency and resilience in operational processes and reduce counterparty risks in the system, unlocking billions of pounds in capital and liquidity that can be put to more productive uses.

The potential transformation in retail payments is even more fundamental. …

The Bank of England approaches Libra with an open mind but not an open door. Unlike social media for which standards and regulations are being debated well after they have been adopted by billions of users, the terms of engagement for innovations such as Libra must be adopted in advance of any launch.

Carney also outlines plans to support initiatives that aim at giving households and firms control over “their” data:

To make real inroads, SMEs must be able to identify the data relevant to their businesses, incorporate it into their individual credit files, and easily share these files with potential providers of finance through a national SME financing platform.

This would put into practice the recommendations from Professor Jason Furman’s Digital Competition Panel report on how to extract value from data and promote competition. One of the most important recommendations in this regard is to give consumers control of their data. This would allow consumers to move their personal information from one platform to another and avoid lock-in effects, opening the door to new services. To some extent, this is what Open Banking hopes to achieve. Although to make this a success means establishing common off the-shelf API standards and operating platforms onto which developers can build. …

It is not for the Bank of England to build this platform but we can help lay some of groundwork. The messaging standards we are adopting in the new RTGS will also include tagging payments with a unique ID called a Legal Entity Identifier (LEI).

Link to earlier post on the SNB’s policy.

Libra

In the FT, Hannah Murphy reports about Facebook’s launch of Libra.

Lots of skepticism in the comments section.

And Hannah Murphy reports that

[p]ositive Money, a consumer campaign group, attacked the proposal. “Our money is increasingly in the hands of a small number of banks and payment companies, and we should avoid ceding further control to unaccountable corporate interests. Facebook’s plans pose alarming implications for privacy and power in the economy,” said David Clarke, the head of policy at the group.

The Future of Money – CBDC and Beyond

At the conference of “Positiva Pengar” and “Monetative” in Stockholm, I argued that it is not so much the introduction of CBDC which would make a difference, but the policies accompanying such an introduction. This view is backed by research of Markus Brunnermeier and myself, as well as by myself.

Many of the proponents of the sovereign money movement appeared open to the argument. Some of the followers, however, did not; they associate CBDC with many benefits that money, in whatever form, will not be able to deliver.

“On the Equivalence of Private and Public Money,” CEPR, 2019

CEPR Discussion Paper 13778, June 2019, with Markus Brunnermeier. PDF. (Local copy of NBER wp.)

We develop a generic model of money and liquidity that identifies sources of liquidity bubbles and seignorage rents. We provide sufficient conditions under which a swap of monies leaves the equilibrium allocation and price system unchanged. We apply the equivalence result to the “Chicago Plan,” cryptocurrencies, the Indian de-monetization experiment, and Central Bank Digital Currency (CBDC). In particular, we show why CBDC need not undermine financial stability.

“On the Equivalence of Private and Public Money,” NBER, 2019

NBER Working Paper 25877, May 2019, with Markus Brunnermeier. PDF. (Local copy.)

We develop a generic model of money and liquidity that identifies sources of liquidity bubbles and seignorage rents. We provide sufficient conditions under which a swap of monies leaves the equilibrium allocation and price system unchanged. We apply the equivalence result to the “Chicago Plan,” cryptocurrencies, the Indian de-monetization experiment, and Central Bank Digital Currency (CBDC). In particular, we show why CBDC need not undermine financial stability.

Climate Risk, Credit Risk, and ECB Collateral

In a CEP Discussion Note, Pierre Monnin argues that financial markets mis-price climate related credit risk. If this were corrected some securities held by the ECB would loose their investment grade credit rating.

Assessing climate risks requires methodologies based on forward-looking scenarios, on complex cause-and-effect linkages and on data that has not been observed in the past. Such models are at their infancy, but already offer meaningful insights. This note provides an overview of key components that such models are built on and illustrates them with examples of the analytics that are already available. It also applies one of the available methodologies to assess transition risk to the corporate bond holdings of the European Central Bank.

“Moderne monetäre Theorie: Ein makroökonomisches Perpetuum mobile (The Macroeconomic Perpetuum Mobile),” NZZ, 2019

NZZ, April 25, 2019. PDF.

  • Modern monetary theory (MMT) is neither a theory, nor modern, nor exclusively monetary.
  • I discuss fallacies related to MMT.
  • Dynamic inefficiency requires permanent, not transitory, r<g.
  • For now, policy makers should rely on common sense rather than MMT.

Yuval Noah Harari’s “Sapiens—A Brief History of Humankind”

Homo appeared roughly 2 million years ago in Africa and Homo sapiens roughly 200’000 years ago in East Africa. Harari divides his account of the last 70’000 years into four parts: The cognitive revolution (language), the agricultural revolution (about 10’000 years ago in today’s Turkey, Iran, Levant), the unification of humankind (through money, empire, and religion), and the scientific revolution. According to Harari, Sapiens developed more efficient strategies for cooperation than other species and in particular, Neanderthals (which sapiens eradicated around 30’000 years ago). The rest is history, i.e., evolutionary biology and cultural history.

On his website, Harari summarizes:

Homo sapiens rules the world because it is the only animal that can believe in things that exist purely in its own imagination, such as gods, states, money and human rights.

Starting from this provocative idea, Sapiens goes on to retell the history of our species from a completely fresh perspective. It explains that money is the most pluralistic system of mutual trust ever devised; that capitalism is the most successful religion ever invented; that the treatment of animals in modern agriculture is probably the worst crime in history; and that even though we are far more powerful than our ancient ancestors, we aren’t much happier.

According to Harari, the agricultural revolution fostered population growth but made life harsher for most humans (due to less varied diet, harder work, infectious diseases)—and for the animals that Sapiens domesticated; religion, empires, money and trade fostered globalization and unification; the scientific revolution arose from Europeans’ admission of ignorance, and it was intertwined with imperialism and capitalism; whether humankind has become happier over time is unknown but doubtful; and we may soon confront a singularity:

Physicists define the Big Bang as a singularity. It is a point at which all the known laws of nature did not exist. Time too did not exist. It is thus meaningless to say that anything existed `before’ the Big Bang. We may be fast approaching a new singularity, when all the concepts that give meaning to our world—me, you, men, women, love and hate—will become irrelevant. Anything happening beyond that point is meaningless to us (p. 461 in the Vintage 2015 edition).

Other tidbits:

  • Settlement of Australia (“The Flood”), America, New Zealand: 45’000, 16’000, 800 years ago. Each settlement was associated with mass extinction of species.
  • “[F]iction has enabled us not merely to imagine things, but to do so collectively” (p. 27). “Ever since the Cognitive Revolution Homo sapiens has been able to revise its behaviour rapidly in accordance with changing needs. This opened a fast lane of cultural evolution, bypassing the traffic jams of genetic evolution.” (p. 36).
  • “The Agricultural Revolution was history’s greatest fraud. … These plants domesticated Homo sapiens, rather than vice versa” (p. 90). The revolution bred worries about the future. Food surpluses brought rulers and elites, palaces and temples, politics, wars, art and philosophy (p. 114). One `imagined order’ with three classes and two genders—the Code of Hammurabi—dates from 1’776 B.C. (p. 117). Writing, archiving, cataloguing (invented by Sumerians around 3’500 B.C.) preserves information about imagined social order; this is critical because the information is not preserved in DNA. Script undermined holistic thought. Hindus invented `Arab’ numerals around 800 AD (pp. 137–146).
  • Cognitive dissonance, contradictory beliefs are necessary to maintain any human culture (p. 184). Over the last 10’000 years, thousands of `human worlds’ have collapsed to a single one (p. 186). Three universal (imagined) orders: Money, empire, religion (p. 191). “Money is the most universal and most efficient system of mutual trust ever devised” (p. 201). Empires are stable, inclusive, not that bad (p. 219). Religious norms are founded on a belief in a superhuman order (p. 234). “Much of ancient mythology is in fact a legal contract in which humans promise everlasting devotion to the gods in exchange for mastery over plants and animals” (p. 236). Polytheist and animist religions recognize a supreme power in the background, devoid of biases and interests (p. 238). Humanist religions worship Homo sapiens. Liberal humanism believes in the humanity of the individual. Socialist humanism believes in the humanity of the collective. (Both build on Christian tradition). Evolutionary humanism (e.g., Nazism) believes that humankind can evolve or degenerate  (pp. 256–263).
  • Science started from the admission of ignorance; observation and math; and the acquisition of new powers (p. 279). Social stability requires that certain `scientific results’ are a dogma or that basic truths are non-scientific (p. 282). With the capitalist system and the industrial revolution, science, industry and military technology intertwined (p. 294). “[S]cientific research can flourish only in alliance with some religion or ideology. The ideology justifies the costs of the research” (p. 305). Science and empire supported each other (ch. 15, 16). The scientific revolution and the idea of progress fostered credit; this reinforced each other (p. 346). The industrial revolution has been a revolution in energy conversion (p. 379) and it was a second agricultural revolution (p. 382). Animal suffering, consumerism (ch. 17). The national time (p. 396). State and market replace family and local community (p. 398). “The state and the market are the mother and the father of the individual” (p. 402). “The nation is the imagined community of the state” (p. 406). The world is safer than ever, and war does not pay any more. Have humans become happier? Answer 1: “Lasting happiness comes only from serotonin, dopamine and oxytocin” (p. 436). Answer 2: Meaning. But “[p]erhaps happiness is synchronising one’s personal delusions of meaning with the prevailing collective delusions” (p. 438). Answer 3: Feelings are not to be trusted; of key import is whether people know the truth about themselves (p. 443). Intelligent design and extreme inequality (ch. 20).

Wikipedia points to critical scholarly reception.

Jack Kerouac’s “On the Road”

280 pages of frantic search for an end. New York, Denver, San Francisco, New Orleans, Mexico City, and the miles in between. Music, drugs, talk, sex.

Wikipedia:

Inspired by a 10000-word rambling letter from his friend Neal Cassady, Kerouac in 1950 outlined the “Essentials of Spontaneous Prose” and decided to tell the story of his years on the road with Cassady as if writing a letter to a friend in a form that reflected the improvisational fluidity of jazz. In a letter to a student in 1961, Kerouac wrote: “Dean and I were embarked on a journey through post-Whitman America to find that America and to find the inherent goodness in American man. It was really a story about 2 Catholic buddies roaming the country in search of God. And we found him.”

“Public versus Private Digital Money: Macroeconomic (Ir)relevance,” VoxEU, 2019

VoxEU, March 20, 2019, with Markus Brunnermeier. HTML.

Both proponents and opponents have suggested that CBDC would fundamentally change the macroeconomy, either for the better or the worse. We question this paradigm. We derive an equivalence result according to which the introduction of CBDC need not alter the allocation nor the price system. And we argue that key concerns put forward in discussions about CBDC are misplaced.

See also our VoxEU book chapter and my paper from last year.

Objective Reality? Refuted

MIT Technology Review reports about the results of an experiment (arxiv.org/abs/1902.05080: Experimental Rejection of Observer-Independence in the Quantum World) suggesting that objective reality … does not exist.

The experiment produces an unambiguous result. It turns out that both realities can coexist even though they produce irreconcilable outcomes, just as Wigner predicted.

That raises some fascinating questions that are forcing physicists to reconsider the nature of reality.

The idea that observers can ultimately reconcile their measurements of some kind of fundamental reality is based on several assumptions. The first is that universal facts actually exist and that observers can agree on them.

But there are other assumptions too. One is that observers have the freedom to make whatever observations they want. And another is that the choices one observer makes do not influence the choices other observers make—an assumption that physicists call locality.

If there is an objective reality that everyone can agree on, then these assumptions all hold.

But Proietti and co’s result suggests that objective reality does not exist. In other words, the experiment suggests that one or more of the assumptions—the idea that there is a reality we can agree on, the idea that we have freedom of choice, or the idea of locality—must be wrong.

Of course, there is another way out for those hanging on to the conventional view of reality. This is that there is some other loophole that the experimenters have overlooked. Indeed, physicists have tried to close loopholes in similar experiments for years, although they concede that it may never be possible to close them all.

Nevertheless, the work has important implications for the work of scientists. “The scientific method relies on facts, established through repeated measurements and agreed upon universally, independently of who observed them,” say Proietti and co. And yet in the same paper, they undermine this idea, perhaps fatally.

“Die SNB schuldet den Pensionskassen nichts (Nothing the SNB Owes to Pension Funds),” NZZ, 2019

NZZ, March 13, 2019. PDF. Updated: Ökonomenstimme, March 22, 2019. HTML.

  • Long-term real interest rates do not reflect monetary policy.
  • In the recent past, monetary policy has contributed to lower fixed-income interest rates but also to higher returns on other asset classes.
  • Complaining about low rates but not adjusting one’s portfolio makes little sense; there is no “financial repression.”
  • If politicians want to subsidize pension funds they should contribute funds from the government budget rather than asking the central bank to contribute.
  • Larger and earlier SNB dividend payouts to the government may not be in the government’s interest.

“Reserves For All? Central Bank Digital Currency, Deposits, and their (Non)-Equivalence,” IJCB

Accepted for publication in the International Journal of Central Banking. PDF.

This paper offers a macroeconomic perspective on the “Reserves for All” (RFA) proposal to let the general public hold electronic central bank money and transact with it. I propose an equivalence result according to which a marginal substitution of outside money (e.g., RFA) for inside money (e.g., deposits) does not affect macroeconomic outcomes. I identify key conditions for equivalence and argue that these conditions likely are violated, implying that RFA would change macroeconomic outcomes. I also relate the analysis to common arguments found in discussions on RFA and point to inconsistencies and open questions.

The Board of Governors Prepares to Fight ‘The Narrow Bank’

The Board of Governors of the Federal Reserve System is requesting comment on the proposal to lower the interest rate on excess balances of eligible institutions that hold a very large proportion of their assets in the form of reserves—i.e., on balances of ‘The Narrow Bank.’

The document states that

[t]he Board is concerned that [Pass-Through Investment Entities] PTIEs, by maintaining all or substantially all of their assets in the form of balances at Reserve Banks and having the ability to attract very large quantities of deposits at a near-IOER rate, have the potential to complicate the implementation of monetary policy.

“Dynamic Tax Externalities and the U.S. Fiscal Transformation,” JME

Accepted for publication in the Journal of Monetary Economics, with Martin Gonzalez-Eiras. PDF. (Appendix: PDF.)

We propose a theory of tax centralization in politico-economic equilibrium. Taxation has dynamic general equilibrium implications which are internalized at the federal, but not at the regional level. The political support for taxation therefore differs across levels of government. Complementarities on the spending side decouple the equilibrium composition of spending and taxation and create a role for inter governmental grants. The model provides an explanation for the centralization of revenue, introduction of grants, and expansion of federal income taxation in the U.S. around the time of the New Deal. Quantitatively, it accounts for approximately 30% of the federal revenue share’s doubling in the 1930s, and for the long-term increase in federal grants.