Tag Archives: United Kingdom

The Bank of England’s “Future of Finance Report”

Huw van Steenis’ summarizes his report as follows (my emphasis):

A new economy is emerging driven by changes in technology, demographics and the environment. The UK is also undergoing several major transitions that finance has to respond to.

What this means for finance

Finance is likely to undergo intense change over the coming decade. The shift to digitally-enabled services and firms is already profound and appears to be accelerating. The shift from banks to market-based finance is likely to grow further. Ultra low rates, new regulations and the need to invest in updating their businesses mean many UK and global banks are struggling to make their cost of capital. Brexit and political and policy changes around the world will also impact the shape of financial services. Risks are likely to shift.
Regulators and the private sector have to collaborate in new ways as technology breaks down barriers. Finance is hugely important to the UK and the right infrastructure can support new finance.

What we ask the Bank of England to do

Shape tomorrow’s payment system
Enable innovation through modern financial infrastructure
Support the data economy through standards and protocols
Champion global standards for markets
Promote the smooth transition to a low-carbon economy
Support adaption to the needs of a changing demographic
Safeguard the financial system from evolving risks
Enhance protection against cyber-risks
Embrace digital regulation

Mark Carney’s June 2019 speech. See also the 2018 US Treasury report on financial innovation.

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.

Government Debt with State Contingent Coupons

On VoxEU, Myrvin Anthony, Narcissa Balta, Tom Best, Sanaa Nadeem, and Eriko Togo discuss the history of government debt with state contingent coupons and offer some lessons.

  • In the mid-19th century, the Confederate states issued cotton-linked bonds
  • In the late 1970s, Mexico issued oil-linked bonds
  • In the 2000s, Turkey issued revenue-indexed bonds
  • Since 2014, Uruguay issues nominal wage-issued bonds
  • Some other examples (figure taken from the column):
  • Obviously, confidence in data quality and thus, quality of institutions is important for the success of such issues.

State contingent securities also have been used in debt restructurings:

The first use of state contingent bonds in debt restructurings occurred in the Brady deals from 1989-97, which allowed commercial banks’ claims on debtor countries to be exchanged for tradable instruments, allowing the banks to clean up their balance sheets. Many of these instruments included ‘value recovery rights’, which envisaged additional debt payments in circumstances where the debtor country’s economic or terms of trade conditions improved substantially … Oil exporters generally linked the payments to oil prices, while other countries linked either to GDP or measures of the terms of trade. Many of the Brady instruments subsequently made significant ongoing upside payments (e.g. Bosnia and Venezuela), while in some cases sovereigns chose to repurchase the instruments as it became clear that upside payments would be triggered (e.g. Mexico, and Bulgaria in the mid-2000s).

More recently, ‘upside’ GDP-warrants have featured as part of the package of bonds issued to creditors in each of the three major restructurings of the past decade: Argentina (2005 and 2010), Greece (2012), and Ukraine (2015). In the case of Grenada (2015), the restructuring deal included instruments with both upside and downside features (Table 2).

Inflation linked bonds have been successful:

Inflation-linked bonds have a long history, dating back to a 1780 issuance by the State of Massachusetts … More recently, they emerged in Latin America in the 1950s and 1960s, in an environment of very high domestic inflation, and the UK became the first advanced economy to issue inflation-linked bonds in 1981. … the global stock of government inflation-linked bonds had grown to around USD 3 trillion by 2015 … Despite this recent growth, inflation-linked debt still accounts for a relatively small share of sovereign debt portfolios in most countries …

Related VoxEU column on policy implications.

Brexit and Third-Country Treaties

In the FT, Paul McClean reports that according to FT estimates and as a consequence of Brexit, the UK will have to negotiate more than 700 treaties with third countries. More than 160 countries need to be dealt with; Switzerland, the US and Norway stand out.

Some negotiations have to be concluded very soon:

… the EU-US Open Skies accord for airlines, were agreed when the forces of liberalisation were at their peak. The political mood has hardened considerably since then. … The timing is tight. The US needs to know the UK’s arrangements with the EU before it can commit, and that may not be clear until late 2018. … “It is not as if you can wait until March 2019 to see what the regime will be. You probably need clarity by the early summer or spring of 2018.”

Who Voted for Brexit?

In a CEPR Discussion Paper, Sascha Becker, Thiemo Fetzer, and Dennis Novy argue that education and income mainly explain voting outcomes. In the abstract of their paper, the authors write:

We find that exposure to the EU in terms of immigration and trade provides relatively little explanatory power for the referendum vote. Instead, … fundamental characteristics of the voting population were key drivers of the Vote Leave share, in particular their education profiles, their historical dependence on manufacturing employment as well as low income and high unemployment. … within cities, we find that areas with deprivation in terms of education, income and employment were more likely to vote Leave.

Bank of England Opens Access to Payment System

A progress update by the Bank of England describes the Bank’s intention, over time,

to extend direct access to RTGS to non-bank Payment Service Providers (firms granted the status of E-Money Institutions or Payment Institutions in the UK), collectively known as PSPs. By extending RTGS access, our objective is to increase competition and innovation in the market for payment services.

Brexit: Minor Costs, Unclear Benefits (Given the Political Constraints)

A report by Open Europe argues that for the UK the cost of Brexit would be minor. The benefits might be minor as well. For interest groups could make it hard to reap the potential benefits of newly gained flexibility.

… the path to prosperity outside the EU lies through: free trade and opening up to low cost competition, maintaining relatively high immigration (albeit with a different mix of skills), and pushing through deregulation and economic reforms in areas where the UK has historically been sub-par compared to international partners. … whether there is appetite for such changes in the UK is unclear.

… implications for the type of relationship the UK should seek with the EU post-Brexit. Realising the potential economic gains we’ve identified – notably via immigration and deregulation – means a relatively high degree of flexibility from the EU. The confines of a Norwegian or Swiss-style arrangement would not deliver this. As such, the best option would be for the UK to pursue a comprehensive bilateral free trade agreement, aimed at maintaining as much of the current market access as possible while also adopting a broader liberalisation agenda over the longer term.

Update: The Economist reports about other cost/benefit estimates.

Inequality and the Welfare State

A new book on inequality by Branko Milanovic adopts an international perspective. The Economist reviews the book:

Like Mr Piketty, he begins with piles of data assembled over years of research. He sets the trends of different individual countries in a global context. Over the past 30 years the incomes of workers in the middle of the global income distribution—factory workers in China, say—have soared, as has pay for the richest 1% (see chart). At the same time, incomes of the working class in advanced economies have stagnated. This dynamic helped create a global middle class. It also caused global economic inequality to plateau, and perhaps even decline, for the first time since industrialisation began. …

Mr Milanovic suggests that both [Kuznets and Piketty] are mistaken. Across history, he reckons, inequality has tended to flow in cycles: Kuznets waves.

In the FT, Martin Wolf argues that a significant part of the (British) welfare state is about insurance rather than redistribution:

Evidence for this comes from another IFS study  … This examined the effects of the tax and benefit systems on people born between 1945 and 1954 …

First, income is far less unequal over lifetimes than in any given year. This is because a big proportion of inequality is temporary … Second, largely as a result, more than half of the redistribution achieved by taxes and benefits is over lifetimes rather than among different people. Third, in the course of adult life, only 7 per cent of individuals receive more in benefits than they pay in taxes, even though 36 per cent of people receive more in benefits than they pay in taxes in any given year. Finally, in-work benefits are just as good as out-of-work benefits at helping people who remain poor throughout their lives but they do less damage to incentives to work. Higher rates of income tax, meanwhile, target the “lifetime rich” relatively well because mobility at the top is relatively modest.

Marcel Fratzscher also wrote a book on the topic, focusing on Germany. He argues that the “Verteilungskampf” (redistributive struggle) intensifies and that equality of opportunity is being lost. In the FAZ, Jan Hauser summarizes a critique of the book by another Berlin based professor, Klaus Schroeder, who argues that the text is very short on substance.