The Denationalization of Money and Cryptocurrencies: Commonalities and Implications for the Global Economy

Gregory Parker of Walden University in this short paper:

The Denationalization of Money, a book by NobelPrize–winning economist F.A. Hayek, suggests abolishing the government’s monopoly over fiat currency. Hayek believed that a single national currency and the central bank have a history of generating massive inflation and; therefore, unregulated private currencies can counteract such a governmental monopoly over the national currency.

Cryptocurrencies (cryptocurrencies) are decentralized digital currencies built on blockchain technology that has the potential to reshape the global financial landscape and foster a more competitive and innovative monetary system.

In this article, I examine some commonalities and implications of Hayek’s theory on the role of money in the economy for the future of cryptocurrencies and the financial system. I also discuss the potential impact of the denationalization of money and cryptocurrencies on the global economic system.

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Did uninsured depositors in the failed Silicon Valley Bank (SVB) need to be saved?

Raghuram Rajan and Luigi Zingales in this IMF Finance and Development Article:

Did uninsured depositors in the failed Silicon Valley Bank (SVB) need to be saved? The argument is that even though everyone knew that deposits over $250,000 were uninsured, if uninsured depositors had not been made whole, panic would have coursed through the banking system. Large depositors’ withdrawals from other banks would have compromised financial stability.

Perhaps! But if large depositors are always protected in the name of financial stability, why aren’t they at least charged the insurance fee that burdens the insured deposits? 

Who will guard the RBI?

My new piece in deccan herald.

Open banking’s far-fetched promise of a financial revolution

Giorgio Barba Navaretti, Giacomo Calzolari and Alberto Pozzolo in this voxeu article:

Open banking involves giving third parties access to information that is otherwise captive in a bilateral relationship between a provider of financial services and its client. Yet, there are considerable limits to the diffusion of financial information and to the use of such information to enhance competition. This column argues that the scope and the aims of open banking, although potentially ground-breaking, may thus be overstated. A new regulatory framework should be devised to deal with the potential shortcomings of open banking along the lines of the EU’s Digital Markets Act and Digital Services Act.

25 Years of European Central Bank

The ECB was established on 1 June 1998, to launch the euro and safeguard its value.

The Central bank kickstarted celebrations to mark its 25th anniversary.

Commencement of the e-HK Dollar Pilot Programme

Eddie Yue, Chief Executive of the Hong Kong Monetary Authority, in this speech:

Central bank digital currency, or CBDC, is one of the hottest topics in the central banking community today. Over a hundred central banks are studying it and a few dozens of them are working on various types of pilot trials.

The HKMA has been researching and piloting on CBDC since 2017. Apart from the exciting work that we are doing with our three partner central banks on the application of wholesale CBDC under Project mBridge, the HKMA has also been exploring the prospect of issuing retail CBDC, or e-HKD, in Hong Kong.

We conducted two rounds of market consultation in the past two years. Overall, the respondents are supportive of the e-HKD initiative and believe that e-HKD has the potential to make payments faster and more efficient while supporting the digital economy.

However, we are cognizant of the fact that e-HKD is not and should not be merely a technology project. Its implementation would entail far-reaching implications on a wide range of issues relating to areas such as legal, regulatory, policy, financial stability, privacy, cybersecurity, and interaction with existing payment methods.

We also understand that e-HKD would be a critical and complex financial infrastructure project that may take years to complete. Therefore, we announced in September last year that we would adopt a three-rail approach to pave the way for possible implementation of e-HKD:

• • Rail 1 aims to lay the technology and legal foundations for supporting the implementation of e-HKD.
  • Rail 2 focuses on application research and pilots, and it runs in parallel with Rail 1.
  • Rail 3 is concerned about launching e-HKD, which will depend on the actual progress made under Rail 1 and Rail 2, as well as the pace of relevant market development.

This comprehensive three-rail approach will ensure that Hong Kong continues to play a leading role in the global financial landscape by getting ourselves ready as best as we can in terms of implementing retail CBDC.

 

The Macroeconomic Consequences of Exchange Rate Depreciations

Masao Fukui, Emi Nakamura & Jón Steinsson in the new NBER paper:

We study the consequences of “regime-induced” exchange rate depreciations by comparing outcomes for peggers versus floaters to the US dollar in response to a dollar depreciation. Pegger currencies depreciate relative to floater currencies and these depreciations are strongly expansionary. The boom is not associated with an increase in net exports, or a fall in nominal interest rates in the pegger countries. This suggests that expenditure switching and domestic monetary policy are not the main drivers of the boom. We develop a financially driven exchange rate (FDX) model in which multiple shocks originating in the financial sector drive exchange rates and households and firms can borrow in foreign currencies. Following a depreciation, UIP deviations lower the costs of borrowing from abroad and stimulate the economy, as in the data. The model is consistent with (unconditional) exchange rate disconnect and the Mussa facts, even though exchange rates have large effects on the economy.

Central Bank Corridor system: Need to Shift from abundant reserves to scarce reserves

Claudio Borio of BIS in this paper says central banks

Since the Great Financial Crisis, a growing number of central banks have adopted abundant reserves systems (“floors”) to set the interest rate. However, there are good grounds to return to scarce reserve systems (“corridors”).

First, the costs of floor systems take considerable time to appear, are likely to grow and tend to be less visible. They can be attributed to independent features of the environment which, in fact, are to a significant extent a consequence of the systems themselves.

Second, for much the same reasons, there is a risk of grossly overestimating the implementation difficulties of corridor systems, in particular the instability of the demand for reserves.

Third, there is no need to wait for the central bank balance sheet to shrink before moving in that direction: for a given size, the central bank can adjust the composition of its liabilities. Ultimately, the design of the implementation system should follow from a strategic view of the central bank’s balance sheet.

A useful guiding principle is that its size should be as small as possible, and its composition as riskless as possible, in a way that is compatible with the central bank fulfilling its mandate effectively. 

What happens when economists grow old? Does their creativity decline?

Daniel Hamermesh and Lea-Rachel Kosnik  in this voxeu article:

The arc of creative activity may rise quickly and then decline with age. This column asks whether this is true for economists and, if so, why. An analysis of all articles published in the ‘Top Five’ economics journals between 1969 and 2018 reveals that economists who had published less in the previous decade of their careers publish less in the current decade. Scholars were less likely to publish after retirement, but those who had published more top-level research in their third decade were less likely to be retired. Perhaps senior economists continue to produce and publish top-level research because it is fun and just might benefit society.

More than Words: Twitter Chatter and Financial Market Sentiment

Travis Adams, Andrea Ajello, Diego Silva and Francisco Vazquez-Grande in this Federal Reserve paper:

We build a new measure of credit and financial market sentiment using Natural Language Processing on Twitter data. We find that the Twitter Financial Sentiment Index (TFSI) correlates highly with corporate bond spreads and other price- and survey-based measures of financial conditions.

We document that overnight Twitter financial sentiment helps predict next day stock market returns.  Most notably, we show that the index contains information that helps forecast changes in the U.S. monetary policy stance: a deterioration in Twitter financial sentiment the day ahead of an FOMC statement release predicts the size of restrictive monetary policy shocks. Finally, we document that sentiment worsens in response to an unexpected tightening of monetary policy.

 

 

Impact of disinflation on income of workers and firms

Benoit Mojon, Gabriela Nodari and Stefano Siviero in this BIS Bulletin article:

• Insights into how the incomes of workers and firms absorb the disinflation burden in the euro area and the United States can be gained by decomposing changes in the GDP deflator into its underlying components.
• Nominal wage increases of 4–5% in the euro area and 3–4% in the United States this year and next year are compatible with bringing inflation within reach of 2% by end-2024, provided that import price growth slows and profit margins stabilise or slightly shrink.
• From a historical perspective, the 2023–24 disinflation path for prices and nominal wages is within the range of past disinflation episodes in both economies, although it remains uncertain how price and wage setters will react to the above-target inflation from 2021 onwards.

Open mouth operations: Monetary policy by threats and argument

Prof Lars Jonung of Lund University, in this interesting paper discusses Swedish monetary policy in the 1980s:

After World War II and prior to the financial deregulation of the 1980s, monetary policy in Sweden as well as in other western European countries rested chiefly on a system of far-reaching non-market-oriented controls of credit flows and interest rates. How was monetary policy conducted in such an environment of financial repression, where the central bank was unable to rely on traditional monetary policy instruments working on “free” and “unregulated” money and capital markets? This study provides an answer from the Swedish experience. It is based on a unique set of confidential minutes from about 160 monthly meetings between the Riksbank and the commercial banks during the years 1956-73.

The examination of the minutes demonstrates that monetary policy was framed in a process involving threats and arguments in a small and closed club involving the central bank and the chief executives of the commercial banks. According to a joke assigned to Erik Lundberg, “open market operations were replaced by open mouth operations” – albeit the dialogue was kept within the club. When Swedish financial markets were deregulated in the 1980s, the standard tools of monetary policy rapidly replaced the meetings between the central bank and the commercial banks.

India and COP-26 Commitments: Challenges for the Mining sector

V. Dhanya, Gautam and Arjit Shivhare in RBI Bulletin for May-23 :

In COP26-Glasgow, India made a commitment to meet 50 per cent of its energy requirement with renewable energy by 2030 and to achieve net-zero emission by 2070. In this context, this paper examines India’s future path to energy security and its impact on the mining sector.

Highlights:

• • India has made significant strides in renewable installed capacity and its share in total installed capacity is at 41.3 per cent (including large hydro) in March 2023. Investment in renewable energy has also more than doubled in 2021-22.
  • With the move towards clean energy, the mining sector is likely to see a gradual shift from coal to other essential minerals required for production of renewable energy.
  • India’s share in global reserve of critical minerals such as cobalt, nickel, and graphite are low. Present clean energy technologies are mineral intensive, the supply of which is concentrated in a few countries. Global coordination and technological innovations for reducing mineral requirements in producing renewable energy would play a major role in achieving a cost-effective sustainable energy transition.

Cross-border Spillovers: How US Financial Conditions affect M&As Around the World

Katharina Bergant, Prachi Mishra & Raghuram Rajan in the new NBER paper:

We find that financial conditions in the core have significant spillover effects on cross-border mergers and acquisitions (M&As). On average, a 1 percentage point easing of the IMF US Financial Conditions Index is associated with approximately a 10% higher volume of cross-border M&As. The spillovers are stronger for countries with more liabilities denominated in foreign currency (or in US dollars). We find that the spillovers are driven by changes in US financial conditions, rather than changes in Euro Area conditions. Deals that happen when financial conditions in the US are tighter (and therefore acquisitions fewer) add more value for the acquirers, as reflected in higher acquirer excess stock returns around the announcement.

International Financial Centre Activity: shifting momentum towards Paris

François Villeroy de Galhau, Governor of the Bank of France in this speech talks about how financial activty is moving from London to Paris:

This first Bloomberg forum in Paris is more broadly a very timely and welcome initiative, which echoes financial players’ growing interest for the French capital. Paris has indeed kept asserting itself as a major financial centre over the last few years, and stands out as unique in the network of European financial centres.

I can only invite you to read the excellent Bloomberg article published on 18 April, which perfectly captures this multifaceted trend.¹ Its title, Banks betting on Paris say there is life after London, should bring definitive reassurance to other banks, and encourage them to make the same winning bet. So should its content, for instance: “since early 2018, nine of the biggest international banks have increased the assets booked at their eurozone entities more than sixfold to almost €1.7 trillion”; “if any city can make claim to being the bloc’s new pre-eminent hub, it’s Paris”, “many executives who spoke to Bloomberg said they expect headcount to keep growing from local hiring [in Paris]”.

Indeed, Paris is the only financial center to offer such a wide range of financial activities, from global asset management to insurance and banking. Beyond the large number of subsidiaries established in or relocated to Paris since Brexit – at least thirty banks, twenty asset managers, several market platforms for instance –, we should also consider the activities performed through branches in Paris, especially trading rooms and desks, which are sometimes far more significant than the subsidiaries to which they are legally bound. Contrary to other cities, which have attracted one or two kinds of financial services, Paris is the only one to have benefited from relocations on all segments of the financial industry.

More importantly still, these moves were not one-off events: the momentum has lastingly shifted from London to continental Europe. We observe a steady shift, which shows no sign of losing steam. Combine this with the strength of some key sectors of our economy; the result is that Paris now stands as the first stock market capitalisation in Europe, ahead of London.² And as the Bloomberg article points out, despite some political unrest earlier this year, Paris is true to its motto: fluctuat nec mergitur, it is rocked by the waves but does not sink.

Has the Phillips Curve Become Steeper?

Anil Ari, Daniel Garcia-Macia, Shruti Mishra in this IMF paper look at the changes in Phillips Curve due to ongoing changes in economy:

This paper analyzes whether structural changes in the aftermath of the pandemic have steepened the Phillips curves in advanced economies, reversing the flattening observed in recent decades and reducing the sacrifice ratio associated with disinflation. Particularly, analysis of granular price quote data from the UK indicates that increased digitalization may have raised price flexibility, while de-globalization may have made inflation more responsive to domestic economic conditions again.

Using sectoral data from 24 advanced economies in Europe, higher digitalization and lower trade intensity are shown to be associated with steeper Phillips curves. Post-pandemic Phillips curve estimates indicate some steepening in the UK, Spain, Italy and the euro area as a whole, but at magnitudes that are too small to explain the entire surge in inflation in 2021–22, suggesting an important role for outward shifts in the Phillips curve.

How the US film industry mitigates financial risk

Alexander Cuntz, Alessio Muscarnera, Prince C. Oguguo and Matthias Sahli in this voxeu research article:

Film production is a high-risk venture that requires large up-front investment. This column uses data from loan registers, copyright registration, and interviews with industry experts to explore the private-sector solutions to financial risk mitigation and the most common types of financial deals in the US film industry. Intellectual property rights are widely used as a collateral in lending deals, in a multi-billion dollar industry where tangible assets are particularly scarce. Co-production, loan syndication, risk indemnification, and insurance can help transfer and mitigate risk among stakeholders in US film finance.

US Senate Committee examining the failures of Silicon Valley Bank and Signature Bank

The US Senate Committee on Banking, Housing and Urban Affairs has been holding multiple hearings to examine the recent banking crisis in US.

• Full Committee Hearing: Holding Executives Accountable After Recent Bank Failures
• Full Committee Hearing: Examining the Failures of Silicon Valley Bank and Signature Bank
• Subcommittee Hearing: Strengthening Accountability at the Federal Reserve: Lessons and Opportunities for Reform
• Full Committee Hearing: Oversight of Financial Regulators: Financial Stability, Supervision, and Consumer Protection in the Wake of Recent Bank Failures

These are useful references to understand the US banking crisis from multiple perspectives.

Mr. Gregory W. Becker, Former CEO of Silicon Valley Bank discusses his stock options in SVB crisis:

My expiring SVB stock options and compensation have been the subject of much speculation over the past few weeks. A large portion of my compensation, as well as other SVB executives’ compensation, was in the form of stock that vested over time, as is typical in the banking industry. I believed very strongly in SVB and was heavily invested in SVB’s stock. As a result, I held nearly five times the amount of shares required by the Board, and I planned to hold the vast majority of my SVB stock until after I retired.

During my tenure as CEO, I regularly sold the underlying shares of my stock options before they expired through 10b5-1 plans. I believed that using 10b5-1 plans to sell my stock options was the most ethical means to manage this part of my compensation, and I required the rest of our executive team to do the same.

My stock option exercise and sale in February 2023 followed a similar pattern. Once the trading window opened after SVB announced its financial results for the fourth quarter and fiscal year of 2022, I entered into a 10b5-1 trading plan on January 26, 2023, to exercise and sell options granted in 2016 that were set to expire on May 2, 2023. SVB’s legal team approved that plan on the basis that I was not in possession of any material non-public information at that time, which I also believed. The trade executed on February 27 pursuant to pre-determined stock price and date triggers—I did nothing to accelerate that trade and only learned that it had executed after the fact.

Similar to my stock sales, SVB’s incentive compensation was determined in the normal course of business. Bonuses for 2022 performance were paid to all U.S. bank eligible employees and were part of SVB’s regular, annual incentive compensation program. The payment date was set by our Human Resources department in advance and to my knowledge underwent the normal approval process. There was nothing irregular or accelerated about these payments, and at the time the payments were made I was focused on ensuring the survival of SVB.

 

The extraordinary generosity of central banks towards banks: Some reflections on its origin

Paul De Grauwe and Yuemei Ji in this voxeu research article point how central banks have transferred massive amount of their profits to banks:

One legacy of quantitative easing (QE) is that banks have accumulated huge amounts of bank reserves.  As a result, the bank reserves market is characterised by a large excess supply. This has kept the money market (interbank) rate stuck at the zero lower bound for many years, until the central banks felt compelled, from early 2022 on, to raise interest rates to fight inflation.  Given the excess supply of bank reserves central banks could only perform this feat by raising the rate of remuneration of bank reserves. As a result, this rate of remuneration became the new (not zero) lower bound in the money market (De Grauwe and Ji 2023a, 2023b).

This policy now has created a lot of ‘collateral damage’. Since the stock of bank reserves is extremely high, the central banks now pay out large amounts of interest rate remunerations to banks, which increase with every interest rate hike. We show this in Table 1. This presents the outstanding bank reserves in the euro area, the US, and the UK in May 2023. We also show the interest rates prevailing at that time (second column). The third column presents the total interest payments made by the respective central banks to their domestic banks. The last column expresses these as a percent of GDP.

These are substantial numbers. To give some perspective, these interest payments exceed the seigniorage gains (profits) of modern central banks. For the US, for example, it has been estimated that seigniorage gains are less than 0.5% of GDP (Barro 1982, Cutsinger and Luther 2022). ¹ Thus, as a result of their anti-inflationary policies, central banks transfer more than the total seigniorage gains to private banks. An extraordinary outcome of the fight against inflation. This is all the more spectacular as the seigniorage gains of central banks find their origin in the monopoly power granted by governments to central bankers. One would expect that these monopoly profits would then be returned to the government. Instead, they are returned more than fully to private agents.  

Solution?

We believed that a two-tier system of minimum reserves is a reasonable alternative to the present system that subsidises banks in an exorbitant and unsustainable manner.  We found out, however, that this is not generally considered to be reasonable. The resistance of central bankers and many economists (cheered on the sidelines by bankers) to the use of minimum reserve requirements is formidable.  ² This led us to ask the question of where this hostility comes from.

There are just so many threads on linkages between central bank policy and commercial banks.

Libor is dead. The question remains if any lessons have been learnt from its crisis

Last week, the RBI issued a press release  which informed that banks/FIs were expected to have developed the systems and processes to manage the complete transition away from Libor from July 1, 2023.

My piece on what led to this decision and what future has in store post Libor.