Tag Archives: Bank run

Treasury Direct

A common argument against retail central bank digital currency (CBDC) is that CBDC would undermine financial stability by allowing the general public to swiftly move funds from banks to a government account. But in several countries such swift transfers are possible already today—in the US through Treasury Direct.

(The argument also has conceptual flaws, see the paper On the Equivalence of Public and Private Money with Markus Brunnermeier.)

How to Prevent Cash Hoarding when Interest Rates are Strongly Negative

On swissinfo.ch, Fabio Canetg explains how the Swiss National Bank prevents banks from hoarding cash rather than holding reserves at the central bank (which pay negative interest). He points to the following sentence in the SNB’s December 2014 press release (my emphasis) and he speculates that banks could, in principle, implement similar schemes to keep depositors from withdrawing cash:

The threshold currently corresponds to 20 times the minimum reserve requirement for the reporting period 20 October 2014 to 19 November 2014 (static component), minus any increase/plus any decrease in the amount of cash held (dynamic component). The change in the amount of cash held is calculated as the difference between the average cash holdings during the most recent reporting period for which the minimum reserve requirement is determined prior to the reference date (cf. section 5 below) and the cash holdings of the corresponding reporting period in a given reference period.

“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.

“Digital Money: Private versus Public,” VoxEU Book, 2019

In Antonio Fatás, editor, The Economics of Fintech and Digital Currencies, VoxEU book, London, March 2019, with Markus Brunnermeier. PDF.

We address five key concerns that are frequently put forward:
1. Aren’t digital currencies just a hype, now that crypto ‘currencies’ like Bitcoin have proved too volatile and expensive to serve as reliable stores of value or mediums of exchange? This confuses things. A central bank digital currency (CBDC) is like cash, only digital; Alipay, Apple Pay, WeChat Pay, and so on are like deposits, only handier; and crypto currencies are not in any way linked to typical currencies, but they live on the blockchain.
2. Doesn’t a CBDC or ‘Reserves for All’ choke investment by cutting into bank deposits? No, because new central bank liabilities (namely, a CBDC) would fund new investments, and this would not in any way imply socialism or a stronger role of government in investment decisions.
3. Wouldn’t a CBDC cut into the profits that banks generate by creating deposits? Less money creation by banks would certainly affect their profits. But if this were deemed undesirable (by the public, not by shareholders and management) then banks could be compensated.
4. Wouldn’t ‘Reserves for All’ render bank runs more likely, undermining financial stability? We argue that, in fact, the opposite seems more plausible.
5. Aren’t deposit insurance, a CBDC, Vollgeld/sovereign money, and the Chicago Plan all alike? There are indeed close parallels between the different monetary regimes. In a sense, “money is changing and yet, it stays the same”.

“Elektronisches Notenbankgeld ja, Vollgeld nein (Reserves for All, But no Sovereign Money),” NZZ, 2016

Neue Zürcher Zeitung, June 16, 2016. PDF, HTML. Ökonomenstimme, June 17, 2016. HTML.

  • Vollgeld seems attractive because it decouples the supply of money from intermediation. By enabling everyone to use legal tender for electronic payments, electronic base money would satisfy a need.
  • Vollgeld would prevent bank runs, at least partly; render deposit insurance unnecessary and reduce moral hazard; could help stabilize the credit cycle; and would redistribute seignorage to the central bank.
  • But these objectives can be obtained with less intrusive means.
  • Moreover, a Vollgeld system would be hard to enforce. Banks and their clients would establish new means of payment to circumvent the regulation. And in times of crisis, the central bank would feel obliged to provide liquidity assistance and bail outs.
  • The central problem is not that private money is used for transactions; it rather is that the money’s users rely on the central bank to guarantee the substitutability of private money and base money. In a democracy, the central bank cannot credibly let large parts of the payment system go under.
  • A sudden, forceful change of regime does not offer a credible way out of this trap.
  • But letting the general public access central bank reserves without abolishing private money from one day to the other may open a path towards a new arrangement where the public learns to distinguish between private and base money and where only the latter is publicly guaranteed.

Deposit Insurance: Economics and Politics

On VoxEU, Charles Calomiris and Matthew Jaremski discuss the origins of bank liability insurance. They argue that it is redistribution, not the aim to boost efficiency, which explains a lot of the action.

… there are two theoretical approaches to explaining the creation and expansion of deposit insurance. The first is an economic approach grounded in potential efficiency gains from limiting bank runs (i.e. the public interest motivation). The second is a political approach grounded in the rising power of special interest groups that favoured insurance as a means to access subsidies (i.e. the private interest motivation).

… Because insurance reduces the incentive for market discipline, it may increase fundamental insolvency risk … whether, on balance, bank liability insurance reduces or increases risk … is an empirical question. Economic theories of liability insurance only make sense on economic grounds if the gains from liquidity risk reduction tend to exceed the moral hazard or adverse selection costs from reduced market discipline.

… Political models seek to explain why liability insurance may be chosen to favour certain groups in society even when it imposes large costs on society in the form of higher systemic risk for banks. In this context, liability insurance needs to be understood as part of an equilibrium political bargain achieved by a winning political coalition. …

… we review empirical evidence about, first, which factors are shown to be instrumental in creating bank liability insurance; and second, evidence about the consequences of passing insurance … We find that political theories are much more consistent with both sets of evidence.

… the historical push for liability insurance in the US came from a coalition of small rural bankers and landowning farmers …

Worldwide, bank liability insurance remained a unique (and controversial) policy choice of the US until the late 1950s, but it spread rapidly throughout the world in recent decades …

Like the adoption of liability insurance in the US, the recent global wave of legislation creating and expanding insurance can also be traced to political influences. …

The expansion of liability insurance has been generally associated with reductions in banking system stability …

The political theories of liability insurance point to a major political advantage. It provides an effective means for a government to supply hard-to-trace subsidies to particular classes of bank borrowers … agricultural borrowers or urban mortgage borrowers …

Liability insurance can create a subsidy for banks (which they can pass through, in part, to borrowers) only if prudential regulation and supervision permit banks to take risks at the expense of the insurer. Thus, lax regulation and supervision are an important part of the political bargain that allows liability insurance to deliver subsidies to banks and targeted borrowers. …

Limits on Cash Withdrawals?

Andreas Valda reports in Der Bund about speculation that the Swiss National Bank (SNB) and/or commercial banks may limit cash withdrawals in response to negative CHF interest rates. According to the report, SNB press officer Walter Meier clarified the instruments at the SNB’s disposal as follows:

Die Nationalbank hat sich gemäss Gesetz bei der Ausgabe von Banknoten nach den Bedürfnissen des Zahlungsverkehrs zu richten; sie kann dafür Vorschriften über die Art und Weise, Ort und Zeit von Notenbezügen erlassen. … [Solche Vorschriften] würden gegenüber Bargeldbezügern bei der SNB gelten, also typischerweise Banken und sogenannte Bargeld-Verarbeiter.

“Notenbankgeld für Alle? (Reserves for Everyone?),” NZZ, 2015

Neue Zürcher Zeitung, February 20, 2015. PDF, HTML. Ökonomenstimme, February 24, 2015. HTML.

  • Allowing the general public to hold reserves at the central bank could help reduce the risk of bank runs and the negative consequences of deposit insurance.
  • It would end the need to accept bank deposits as means of payment although they are not legal tender; this need arises due to prohibitions on cash payments, for tax reasons.
  • But it could also have negative consequences: Money and credit creation by banks would be undermined, with social costs and benefits.
  • Price stability and financial stability could be threatened during the transition period.
  • More technical questions would have to be addressed as well: They concern the payment system or the conduct of monetary policy.
  • Proposals to go further and to abolish cash are not convincing. One suggested benefit—more leeway for monetary policy makers—is over estimated: Negative rates can also be engineered (effectively) through fiscal policy, and they can fully be implemented with a flexible exchange rate between reserves and cash.
  • Another suggested benefit—better monitoring of tax dodgers and criminals—is also overrated; the fixed cost to circumvent the measure would deter minor illegal activity but not major one.
  • But abolishing cash would have severe negative consequences for privacy and could negatively affect financial literacy.
  • Enforcing an abolishment of cash would be difficult. In a free society, any reform to the monetary system is constrained by the requirement that money must remain attractive for its users.