Archive for the ‘Speech / Interviews’ Category

How much should tomorrow’s central bank balance sheets do? And what central banks can learn from parenting

September 23, 2021

Andrew Hauser of Bank of England in this speech discusses role of central bank balance sheets in monetary policy in future:

Central banks can’t choose whether to take the actions necessary to deliver their monetary and financial stability mandates: they are obligated to do so. But they do have choices about how they go about it – and a key factor in those judgments is the role they want financial markets to play. In my remarks today, I want to do three things. First, to show just how dramatically the role of central bank balance sheets has changed in recent years, and the forces shaping the future. Second, to review the complex and shifting inter-relationships between central banks and financial markets over history. And, third, to suggest some possible principles for shaping central bank operations of the future in ways that harness the benefits of financial markets.

Hauser shows how central bank balance sheets have grown across most countries. He then goes back to the history of central bank balance sheets and its relation with financial markets. He connects the relationship to parenting:


Central bank digital currency: the future starts today

September 13, 2021

Benoît Cœuré, Head of the BIS Innovation Hub in this speech:

Across the world, central banks are coming together to focus on their common mission. Charged with stability, they will not rush. They want to move fast, but not to break things. Consultations with payment systems and providers, banks, the public and a broad range of stakeholders have begun in some countries. To build a CBDC for the public, a central bank needs to understand what they need, and work closely with other authorities. The BIS Innovation Hub is helping central banks. We already have six CBDC-related proofs of concept and prototypes being developed in our centres, and more to come.9

The European Union is uniquely placed to face the future. You can build on a state-of-the-art fast payment system, on the strong protections provided by the General Data Protection Regulation and on the open philosophy of the Second Payment Services Directive. The ECB’s report on a digital euro sets the stage.

A CBDC’s goal is ultimately to preserve the best elements of our current systems while still allowing a safe space for tomorrow’s innovation. To do so, central banks have to act while the current system is still in place – and to act now.

For Maldives, fighting climate change is an existential battle

September 8, 2021

IMF’s Quarterly Mag Finance & Development’s Sep-21 edition focuses on climate change.

In the edition, there is q&a with Maldives Environment Minister Aminath Shauna. She says for Maldives, fighting climate change is an existential battle. She also discusses how the pandemic created all kinds of problems for the small island nation:

F&D:What is at stake for Maldives when it comes to climate change?

AS:The right question is what is not at stake. The Maldives is one of the most low-lying nations in the world, and for us climate change is an existential threat. There’s no higher ground we can run to. It’s really just us, the islands, and the sea. Eighty percent of our islands are less than a meter above sea level. Over 90 percent of the islands report flooding annually. Ninety-seven percent are reporting shoreline erosion, and 64 percent of the islands experience severe erosion. Fifty percent of all our housing structures are within just 100 meters of the coastline. So most really cannot withstand tidal floods, let alone tsunamis. Really, everything is at stake.

F&D: What measures has the government taken to fight the effects of climate change?

AS: Almost all 187 inhabited islands in the Maldives have infrastructure that protects them from tidal swells and beach erosion—hard engineering solutions that have been developed over a span of 20–25 years. All the islands have a harbor, shoreline protection—and most of them have erosion prevention measures. The first barrier of protection is obviously the coral reefs. Building the resilience and protecting the health of coral reefs has really been at the forefront of government policies.

However, the approach that our government has taken is a holistic one. We believe that building resilience of the entire community is necessary. Changing how we manage our waste and generate power are critical in terms of adaptation. We have introduced a net zero policy to shift our economy from running on diesel to basically running on sunshine, which we have in abundance. We have also introduced a single-use-plastic phaseout by 2023, which is already being implemented. We can clean up our act and stop the open burning of garbage on the islands. We are currently working on two major waste management projects with the Asian Development Bank and other development partners and another with the World Bank to build world-class waste management centers. Our government has a target of protecting 20 percent of our ocean resources by 2030—so we can better protect our reefs, our mangroves, and other biologically important areas. So we’re thinking of it as a very holistic approach rather than just hard engineering solutions.


Central banking, fast and slow: Central banking should be like Kahneman’s System II thinking

September 6, 2021

Ms Fundi Tshazibana, Deputy Governor for the South African Reserve Bank in this speech given in July 2021 quotes Daniel Kahnemann’s Thinking Fast and Slow.

The title borrows from Daniel Kahneman’s well-known book, Thinking, fast and slow. On 6 July 2020, Project Syndicate published an op-ed by Mohammed El-Erian also titled ‘Central banking, fast and slow’. The title of this speech was finalised in June and published in the Nelson Mandela Bay Leadership Summit programme before this article appeared. This speech deals with a different subject matter to the op-ed and the shared title is purely coincidental.

To give context to the title, the book talks about two modes of thought: System 1 thinking, which is fast, instinctive, and emotional; and System 2 thinking, which is slower, more deliberate, and logical. This book, and the larger field of behavioural conomics, is fundamentally about human decision-making and where it goes wrong. I’ll sketch out some of the key ideas from this literature, and then discuss how they manifest in my area of work.

For Kahneman, humans make two kinds of judgement errors: bias and noise. People use decision-making shortcuts, often unconsciously, which cause them to make mistakes in specific directions. This is bias. And then their judgements are surprisingly erratic, which is noise.

A good example of bias is the fear of flying. Plane crashes are rare but when they happen, they are newsworthy. On the other hand, car crashes are very common, but they get much less attention. Unfortunately, we are biased towards treating visible anddramatic information as being more important. As for noise, even where there is no bias, there is still a surprising amount of randomness in human decisions.

How does this beh eco apply to central banking? Central banks should be like System II: slow and deliberative thinking rather than fast and instant thinking:

When I first started exploring the work on fast and slow thinking, I of course started with its relevance for public policy. Central banking should be a classic case of slow, deliberative thinking, with a medium-term view and logical, evidence-based analysis. When we change interest rates today, it has effects about 12 to 24 months ahead. But very often the debate about monetary policy is absorbed by short-term thinking, focused on last month’s data.

For instance, in May this year we received an inflation print of 5.2%, which is above the 4.5% midpoint of our inflation target. The SARB had been projecting a spike in inflation for over a year, and had published its forecast for inflation and implications for the interest rate path, so the May inflation print was basically no surprise to us at the SARB.

Nonetheless, this concrete and visible data point seemed to make people think that the SARB would now be more likely to hike interest rates. Similarly, in June, when inflation slowed to 4.9%, this was welcomed as good news for interest rates. But again, we had expected this. At most, it confirmed our forecast. These were classic examples of the so-called ‘availability heuristic’, where something easy to see obscures the facts which actually matter for a decision.

This past year, the focus on short-term issues contributed to criticism of the SARB as not doing the right thing. Yet, when we look at historical performance, the SARB, imperfect as it might be, has kept to its price stability mandate and brought down inflation rates to well within the target range. The cost of borrowing is therefore lower because lenders don’t have to demand so much inflation compensation. SARB decisions have also become more transparent – at every meeting of the MPC we publish our forecasts and give reasons for our decisions.


The European financial center of the future should be like a European financial cluster

September 3, 2021

Post-Brexit, there was a discussion on pitching regional European financial centres such as Paris, Frankfurt etc as ‘the European financial centre’.

Joachim Wuermeling of Bundesbank in this speech says the better approach is to think of a financial cluster:


Inaugural Shaibal Gupta Memorial Lecture: Role of history in development economics

September 2, 2021

Prof Abhijit Banerjee of MIT gave the inaugural Shaibal Gupta memorial lecture in June-2021. Prof Banerjee speaks on role of history in development economics and says the main lesson is to be humble.

In June 2021, Nobel Laureate Abhijit Banerjee (Ford Foundation International Professor of Economics, MIT) delivered the inaugural Shaibal Gupta Memorial Lecture organised by Asian Development Research Institute, broadly discussing the role of history in development economics.

An important body of recent work emphasises the idea of the ‘long arm of history’, that is, history cannot be escaped totally and has durable effects. For example, countries that were British colonies several years ago, continue to have British-style legal systems. However, Prof. Banerjee contends that there is no logical reason why persistence has to mean determinism – it could just be that things are slow to change due to inertia or coordination failures. Persistence does not necessarily guarantee that there will be no change; just that change takes place in unexpected ways, for instance, long-term consequences on a country’s economy on account of sudden death of the leader.

At some level, one can never answer the question of determinism – it is a big philosophical debate with no real resolution. Yet, there is not enough evidence on determinism for us to become pessimistic. There are many examples of positive change in welfare outcomes over the past 20-50 years. Hence, in Prof. Banerjee’s view, we should continue to take practical action – with humility – and account for any specific constraints of culture, politics and institutions.


When central bank governor eyebrows were primitive form of emojis..

August 19, 2021

Andy Haldane, chief economist, Bank of England is leaving the central bank and moving to The Royal Society for Arts

Andy gave his swansong speech recently which is a must read. Fair bit of history and humor.

On central bank communications:

At the point I joined the Bank, central banks lived by a mantra of “monetary mystique”. This was more than just cultural. Secrecy was seen as one of the essential tools in central banks’ armoury.footnote[33] Opacity imparted power, secrecy conferred influence. And the Bank of England was seen as the grand-master of these Delphic arts. These were well-exemplified by the utterances of its most famous former Governor, Montagu Norman, whose “never apologise, never explain” and “I don’t have reasons, I have instincts” have gone down in the annals of central bank folklore.

For much of the first few hundred years of the Bank’s history, its public communication largely took the form of an annual speech by the Governor of the day to the bankers and merchants of the City of London at the Lord Major’s Mansion House Banquet, literally a stone’s throw from the Bank. The public audience for this singular act of public communication was about as diverse a set of white, male, middle-aged, slightly-pissed financiers as it is possible to assemble.

Body language can sometimes substitute for the spoken word. So it was at the Bank of England in the 1920s, when the Governor’s “eyebrows” famously became one of the Bank’s means of externally communicating. The Governor’s eyebrows were, in a way, a primitive form of emoji: sterling crisis – sad face, bad pre-MPC presentation – very sad face. Nonetheless, for even the most malleable-faced Governor, the eyebrows were an imperfect communications medium.


Andy covers a large ground in the speech:

At the end of September I leave the Bank of England, 32 years almost to the day since I joined. Most would say that is a decent stint, but in Bank terms it is just really getting started. My personal assistant, the brilliant Sandra Mills, has just completed 44 years. The Bank’s company secretary, John Footman, is just about to clock 52 years. I never was a completer-finisher.

It has not, of course, been 30 years of hurt.footnote[1] I have loved almost all of my time at the Bank. I promised myself one thing when I joined – that I would only stay as long as it was interesting. It has been interesting for 32 years. Events made it so. And it remains no less interesting now. I tell the Bank’s new entrants I can promise them only one thing: they will be telling their families and friends about this moment in history and, uniquely, they can write its next chapter. As a public servant, this is as good as it gets.

Any lengthy career in public policy will inevitably be punctuated by crisis. In my case, crises have provided not just the punctuation marks, but most of the words, sentences and paragraphs too. In public policy, crises are the ultimate learning experience. They are also the moments when the Overton window of opportunity is widest and the opportunity for change greatest. Crises are moments of challenge and opportunity in equal measure. I am very fortunate to have experienced plenty of both.

My time of the Bank has been evenly split between its twin statutory functions, monetary and financial stability. These functions, embedded in the Bank’s Royal Charter in 1694, remain its statutory centrepiece today. (The Bank’s third objective, fighting the French, has by contrast tended to be downplayed.) Over the intervening 327 years, both monetary and financial stability have had their fair share of challenges and opportunities. These have perhaps come thicker and faster over the past 27 years than the preceding 300.

I want to offer a few retrospective thoughts on the evolution of monetary and financial stability over the past 30 years before turning to central bank communications, a crucial ingredient of both. Bank of England policy frameworks and practices have undergone an astonishing transformation over that period. I do not think it is an exaggeration to say there has been a revolution in how the Bank goes about securing monetary and financial stability and how it communicates about both. The catalyst for this revolution has been crisis.

Having discussed this historical evolution-cum-revolution, I discuss some of the key issues facing central banks today. This is the “dreaming” bit – looking around corners to judge not only what is coming but how to reshape it, seeking out the biggest issues not just of today but tomorrow. It is the Wayne Gretsky approach to public policy – skating to where the puck is going, not where it is.footnote[2] That can be unconventional and sometimes misunderstood. But it is, for me, the essence of effective policymaking.

Nice breezy read which teaches quite a bit..


With changes in securities markets landscape, there is rising demand for securities law professionals

August 17, 2021

SEBI chair Ajay Tyagi gave a speech recently on the Inaugural Program for L.L.M. in Investment and Securities Laws. The program is offered jointly by National Institute of Securities Markets (NISM) and Maharashtra National Law University (MNLU).

He chair points how with changing landscape of financial/securities markets, need for people who can develop laws is also rising. He also lists how students can use this opportunity to both learn and contribute to the field.

CBDC: A Solution in Search of a Problem?

August 11, 2021

Federal Reserve Governor Christopher Waller in this speech questions the hype around CBDC. He says CBDC is basically a solution needing a problem. In other words, CBDC does not solve any major problem facing monetary world:

In all the recent exuberance about CBDCs, advocates point to many potential benefits of a Federal Reserve digital currency, but they often fail to ask a simple question: What problem would a CBDC solve? Alternatively, what market failure or inefficiency demands this specific intervention? After careful consideration, I am not convinced as of yet that a CBDC would solve any existing problem that is not being addressed more promptly and efficiently by other initiatives.


He looks at following questions on CBDC:

  1. What is the problem with our current payment system that only a CBDC would solve?
  2. Could it be that the payment system is too limited in reach, and that introducing a CBDC would make the payment system bigger, broader, and more efficient?
  3. Could it be that existing payment services are too slow?
  4. Could it be that too few people can access the payment system?
  5. Could it be that a CBDC is needed because existing payment services are unreasonably expensive?
  6. ….it is often argued that the creation of a CBDC would spur innovation in the payment system. This leads me to ask: do we think there is insufficient innovation going on in payments?
  7. Could it be, however, that the types of innovations being pursued by the private sector are the “wrong” types of payment innovations?
  8. Could the problem be that government authorities have insufficient information regarding the financial transactions of U.S. citizens?
  9. Could the problem be that the reserve currency status of the U.S. dollar is at risk and the creation of a Federal Reserve CBDC is needed to maintain the primacy of the U.S. dollar?
  10. Finally, could it be that new forms of private money, such as stablecoins, represent a threat to the Federal Reserve for conducting monetary policy?

Barring Q7, answers to other questions are negative.

In the end:

After exploring many possible problems that a CBDC could solve, I am left with the conclusion that a CBDC remains a solution in search of a problem. That leaves us only with more philosophical reasons to adopt a CBDC. One could argue, for example, that the general public has a fundamental right to hold a riskless digital payment instrument, and a CBDC would do this in a way no privately issued payment instrument can.18 On the other hand, thanks to federal deposit insurance, commercial bank accounts already offer the general public a riskless digital payment instrument for the vast majority of transactions.

One could also argue that the Federal Reserve should provide a digital option as an alternative to the commercial banking system. The argument is that the government should not force its citizens to use the commercial banking system, but should instead allow access to the central bank as a public service available to all.19 As I noted earlier in my speech, however, the current congressionally mandated division of functions between the Federal Reserve and commercial banks reflects an understanding that, in general, the government should compete with the private sector only to address market failures. This bedrock principle has stood America in good stead since its founding, and I don’t think that CBDCs are the case for making an exception.

In summary, while CBDCs continue to generate enormous interest in the United States and other countries, I remain skeptical that a Federal Reserve CBDC would solve any major problem confronting the U.S. payment system. There are also potential costs and risks associated with a CBDC, some of which I have alluded to already. I have noted my belief that government interventions into the economy should come only to address significant market failures. The competition of a Fed CBDC could disintermediate commercial banks and threaten a division of labor in the financial system that works well. And, as cybersecurity concerns mount, a CBDC could become a new target for those threats. I expect these and other potential risks from a CBDC will be addressed in the forthcoming discussion paper, and I intend to expand upon them as the debate over digital currencies moves forward.


What will the bank of the 21st century look like?

July 23, 2021

One of the biggest questions facing the scholars of money and banking is:  What will the bank of the 21st century look like?

Dennis Beau, First DG of Banque De France in this brief speech shares his perspective:


India’s CBDC: RBI working towards a phased implementation strategy and examining use cases

July 23, 2021

RBI Deputy Governor T Rabi Shankar in a speech yesterday (22-Jul-2021) spoke on CBDC and RBI’s take on it.

Central Banks across the globe are engaged in exploring CBDCs and a few countries have also introduced proofs of concept / pilots on CBDC. The High Level Inter-Ministerial Committee (November 2017) constituted by Ministry of Finance, Government of India (GoI) to examine the policy and legal framework for regulation of virtual / crypto currencies had recommended the introduction of CBDCs as a digital form of fiat money in India. Like other central banks, RBI has also been exploring the pros and cons of introduction of CBDCs since quite some time.

Generally, countries have implemented specific purpose CBDCs in the wholesale and retail segments. Going forward, after studying the impact of these models, launch of general purpose CBDCs shall be evaluated. RBI is currently working towards a phased implementation strategy and examining use cases which could be implemented with little or no disruption. Some key issues under examination are – (i) the scope of CBDCs – whether they should be used in retail payments or also in wholesale payments; (ii) the underlying technology – whether it should be a distributed ledger or a centralized ledger, for instance, and whether the choice of technology should vary according to use cases; (iii) the validation mechanism – whether token based or account based, (iv) distribution architecture – whether direct issuance by the RBI or through banks; (v) degree of anonymity etc. However, conducting pilots in wholesale and retail segments may be a possibility in near future.

On legal matters:

Although CBDCs are conceptually no different from banknotes, introduction of CBDC would require an enabling legal framework since the current legal provisions are made keeping in mind currency in paper form. Under the Reserve Bank of India Act, 1934, the Bank is empowered to “…regulate the issue of bank notes and the keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage” (Preamble).

The Reserve Bank derives the necessary statutory powers from various sections of the RBI Act – with respect to denomination (Section 24), form of banknotes (Section 25), status as legal tender (Sec 26(1)) etc. There is a need to examine consequential amendments to other Acts like The Coinage Act, 2011, FEMA, 1999, Information Technology Act, 2000 etc.

Even though CBDCs will be a primarily technology driven product, it will be desirable to keep the legislation technology neutral to enable coverage of a variety of technology choices.

However, this bit on credit creation needs some updating:

CBDCs, depending on the extent of its use, can cause a reduction in the transaction demand for bank deposits. Since transactions in CBDCs reduce settlement risk as well, they reduce the liquidity needs for settlement of transactions (such as intra-day liquidity). In addition, by providing a genuinely risk-free alternative to bank deposits, they could cause a shift away from bank deposits which in turn might reduce the need for government guarantees on deposits (Dyson and Hodgson, 2016).

At the same time reduced disintermediation of banks carries its own risks. If banks begin to lose deposits over time, their ability for credit creation gets constrained. Since central banks cannot provide credit to the private sector, the impact on the role of bank credit needs to be well understood.

Plus, as banks lose significant volume of low-cost transaction deposits their interest margin might come under stress leading to an increase in cost of credit. Thus, potential costs of disintermediation mean it is important to design and implement CBDC in a way that makes the demand for CBDC, vis‑à‑vis bank deposits, manageable.

As Bank of England researchers (followed by other central banks) showed that banks first create credit which comes back as deposits. So banks are never really credit constrained and certainly not by deposits. The contraints are more on real economy side i.e. whether banks can identify are economic opportunities and so on.   Another constraint is regulations.

A European and Rawlsian view on inequality, inclusive growth and monetary policy

July 19, 2021

Olli Rehn, Governor of the Bank of Finland, in this speech quotes Rawls to justify low for long interest rate policy of central banks:

In the euro area, national policies determine labour market outcomes. However, monetary policy can support full employment without prejudice to price stability. In the presence of a flattened Phillips curve, policies aiming at full employment are likely to have a moderate inflationary impact in the short term. Under such circumstances, monetary policy can also help us get closer to full employment.

In fact, considerations about labour-income and wealth inequality strengthen the case for a “lower for longer” strategy, when monetary policy is constrained by the effective lower bound. This is to my understanding in line with considerations that featured prominently in the Federal Reserve’s recent framework review and have contributed also to the new ECB monetary policy strategy, of which President Christine Lagarde informed the public earlier today.

So, let me ask, on the basis of these reflections: what should one as a central banker think about inequality and inclusive growth in the making of monetary policy? In my view, the philosophy of John Rawls is a most helpful guide here. One of his key insights, or one of his three principles of a just society, is that inequalities are acceptable only in case that they benefit the less well-off members of the society.

That is by no means a carte blanche for e.g. advocating tax cuts that benefit the richest or believing in some trickle-down theory of economic growth. But it implies that as the main impact of monetary policy in the proximity of effective lower bound has been to raise output and employment, and thus reduce income inequality by helping create millions of jobs and enhance the income of the previously unemployed and other less well-off members of the society, even if it had limited negative side-effects on wealth inequality, then the policy has been in line with the pursuit of a just society.

Linking Rawlsian thinking to monetary policy is interesting…

What can development practice learn from AK47?

July 14, 2021

Superb interview of Prof Lant Pritchett (HT: Econforeverybody blog, a must read blog). In the short interview, Pritchett discusses several problems in development sector from education to copying success stories blindly only to fail.

In one q, he speaks about what development sector can learn from AK47:

Ann Bernstein: ….. I often say that we South Africans like to introduce Rolls Royce policies and laws when as a country we drive Toyotas. You have thought about this issue a lot and you have written that development practice can learn a lot from the AK47. Can you explain this controversial remark?

Pritchett: The AK47 is the world’s most popular weapon. The M16, which is the standard weapon in the US army, is far and away a more accurate weapon than the AK47, which beyond a few hundred yards, cannot hit a thing. The AK47 emerged from the Soviet Union, where they designed their weapons for the soldiers they had, low capability with little training. They also designed the AK47 to be unbelievably robust; no matter what you do to it, when you pull the trigger, it fires. You can basically hand anybody an AK47 and it will be a reasonably effective weapon. The United States took the opposite approach of designing the best possible weapon and training soldiers to match the weapon. It is an excellent weapon, but if you do not keep it clean and in good functioning order, it will misfire.

The problem is when you give the M16 with its perfect design to a poor soldier it won’t work. This mirrors a lot of what has happened in development – the desire to adopt best practice, leads to a gap between practice design and the capability for implementation. Rather than organically building designs that work in a low implementation environment, policymakers have tried to borrow designs and fit them into countries, and it just does not work. When well-designed programmes are poorly implemented the reason is obvious, but the problem repeats itself, because no one ever admits that what they need is an AK47. You need to design the programme for the soldiers you have.

Interestingly said…


The theory of average inflation targeting

July 13, 2021

In Aug-2020, Federal Reserve announced shifting to a new monetary policy regime of average inflation targeting. Under this policy, the central bank looks to target inflation averaging over a period. So say central bank targets 2% inflation rate, Actual inflation has been 1% for 12 months. Inflation becomes 2% in 13th month and is expected to rise.

In a normal IT, central banks will look to tighten policy. However in AIT, central bank will not hurry and instead look at average inflation over the two years to be 2%. So first year inflation was 1% and second year around 2.5%-3%, bringing average inflation in two years to 2%. The idea behind AIT is to tell markets that central bank will not start tightening policy as soon as inflation starts to go up.

President of NY Fed, John Williams in this speech explains the theory and research behind AIT:


Regulating BigTech in financial services

June 23, 2021

Nice speech by Tobias Adrian of IMF on regulating BigTech in finance.

First the business model of BigTech is different from FinTechs:

There is no doubt technology is having a profound impact on the financial services industry globally. When we think of BigTech, we think of large technology conglomerates with extensive customer networks with core businesses in social media, telecommunications, internet search and e-commerce. They are present in all continents and in most – if not all – of our member jurisdictions.

The business model of BigTechs leverages three factors: the data they already have on consumers, aiding BigTechs to understand customer needs better; the advanced analytics they use to deepen this understanding further; and the reliance on strong networks effects, from leveraging their large consumer base. Their expansion into financial services can happen very quickly, as network effects drive interaction, user activity and the generation of ever greater amounts of data.

It is interesting to see that BigTech expansion into financial services happens in a different direction than what we would normally see in fintech start-ups. The new technologies that allowed fintech start-ups to unbundle financial services, offering partial financial services or aggregation and customer interface services, are used by BigTech to “reverse” the unbundling. Based on their large global user base of non-financial products, they benefit from cross-subsidization and economies of scale and scope. That makes them well positioned to capture a significant market share of financial services once they start providing them.

There are some potential benefits in this “rebundling”. BigTechs can use their knowledge of consumer preferences obtained through their other business areas, such as consumer spending habits and credit worthiness, to offer financial services to customers who may be underserved by traditional lenders. The economic and social benefits of financial deepening can be compelling.

Why we need to regulate BigTechs?

So, why should financial regulators be concerned with BigTech?

The provision of cloud services is a good example of how BigTech non-financial services could have broader implications. The cloud is the virtual delivery of computing services that powers the operations of diverse entities across all financial services. These range from the largest bank to investment managers and smallest start-ups.

The range is wide, yet there is a strong dependency on only a few critical providers. The Bank of England, in a 2020 survey, estimated that more than 70 percent of banks and 80 percent of insurers rely on just two cloud providers for IaaS (Infrastructure as a service). [2] Globally, 52 percent of cloud services are provided by just two BigTech entities, while more than two-thirds of services are provided by four BigTechs. [3]

This concentration highlights the reliance of the financial sector on the services provided by BigTech. Ultimately, failure of even one of these firms, or failure of a service could create a significant event in financial services, with a negative impact on markets, consumers, and financial stability. The importance of these services means that in some respects, BigTechs may be already ‘too-critical-to-fail’ in some.

Fintech firms in general are not yet systemically significant, because their market share of financial services in most jurisdictions is not yet material. 

In regulation, there are two broad approaches – entity based and activity based:

The BIS and FSI [6] have recently re-ignited the discussion on activity vs entity-based regulations and their adequacy to deal with BigTechs. I would like to explore these ideas a little further.

Consider the entity-based approach — in which regulations are applied to licensed entities, or to groups that engage in regulated activities. Requirements are imposed at the entity level and may include governance, prudential and conduct requirements. The entity-based approach can be built on principle-based regulations that allow more flexibility, as it can rely on expectations of governance and risk management of the entities and groups. Most important: There is a continuous engagement between supervised firms and supervisors, allow for the monitoring of the buildup of risks and the evolution of business models. Implementation is supported by supervisory activities (such as off-site monitoring and on-site inspections). Supervisors usually have a range of early steps that can be taken to modify firms’ behavior that could lead to excessive risk-taking and instability.

By comparison, consider the activity-based approach — in which regulations are applied to any entity (or individual) that engages in certain regulated activities. Those regulations are typically used for market conduct purposes. They are generally prescriptive, and compliance is ensured by fines and other enforcement actions. Most BigTech firms are already subject to such activity-based regulations in many countries, such as AML/CFT and consumer protection rules.

In some ways, the activity-based approach may encourage competition by requiring that only relevant regulatory permissions are needed to carry out certain activities. In theory, this “levels the playing field” by applying the same rules to the same activities, whoever is doing them. However, there are some important caveats. The approach must define activities very precisely, which is likely to create regulatory arbitrage opportunities, as it may not be able to capture rapidly changing and hard to define fintech activities. There is less room for supervisors to take actions before proceeding to enforcement. Because of this heavy reliance on enforcement, the activity-based approach is generally not suitable for early supervisory action to modify risky behavior. It is also not very effective for cross-border activities, unless global regulators adopt consistent regulations and unless international agreements allow for cross-country enforcement actions.

Therefore, where firms have a potentially systemic approach and have a business model that involves various inter-related risks, a more hybrid type of regulation makes sense. Since our Global Financial Stability Report of 2014, [7] the IMF has advocated for a mixed approach to address systemic risks posed by shadow banking. There are some similarities in the regulatory challenges between those from shadow banking and BigTech. For example, both have grown outside the regulatory perimeters to have potential systemic implications. While each individual entity and service may not pose systemic issues, the combination of the entities and services, provided as bank-like financial services, also creates systemic risks. Some entities and functions of both shadow banking and the BigTech ecosystem can easily relocate their headquarters and main activities to other jurisdictions where regulations are less robust.


Patchy data is a good start – from Kuznets and Clark to supervisors and climate

June 22, 2021

Frank Elderson of ECB in this speech reflects on how unprepared European banks are towards climate change.  The data is still patchy but is work in progress. He points how this is similar to starting the concept of national accounts and then gradually building it:

Supervising and managing climate risks represents a long journey into a new and complex topic for all of us. But progress is possible, as a few banks have already shown. Our efforts to raise the bar for climate risk management and disclosures are motivating some banks to explore climate and environmental risks further and manage them better. And it is important that we share the knowledge we gain and the lessons we learn along this journey.

When thinking of lessons learned, one looks to the past.

So let’s go back almost a century to the 1930s, a time when governments were struggling to pull their economies out of the abyss of the Great Depression.

After experimenting with new tools, it was the development of national accounts by economists like Clark in the United Kingdom and Kuznets in the United States that gave policymakers a first real grip on of how the economy was doing. It was a faulty measure – and remains so to this day – but it was the best possible solution at the time. No, national accounts were not harmonised. And yes, the data were patchy and incomplete at first. But as imperfect a measure as it was, it enabled progress and was a fundamental step towards lifting economies out of the Great Depression.

Fast forward 90 years – and you will find us here, today, facing an even greater challenge than the Great Depression: climate change. We have got better at collecting information on the consequences of climate change. As patchy as those data may be for now, it will enable progress in climate issues too. And in any case, banks do already have access to enough information to start making real progress.

Banking regulation lessons from Jet flights and mail bags

June 15, 2021

Fed Vice Chair for Supervision Randal Quarles draws banking regulation lessons from flights and mail bags:

As many of you know, I am speaking to you from Salt Lake City, which, among its myriad other virtues, was the home of one of the earliest passenger airlines-Western Air Express, which ran its first passenger flight in the spring of 1926: Eight hours in a Douglas M2 between Salt Lake City and Los Angeles, with one stop in Las Vegas for fuel. Two of the first passengers sat on the mail sacks in the back, and those early plane travelers were adventurers in other ways as well. That year there were 12 fatal commercial airplane crashes and that number rose to 59 a year by 1930. That’s not total deaths-that’s fatal crashes, with many people on each plane. Comparing hours flown and number of flights, that would be as if we had 7,000 fatal airplane crashes in a typical year today, with hundreds of thousands dead.

But we did not have 7,000 fatal crashes last year. We had five in the entire world. The year before we had eight. Air travel is famously the safest way to get from point A to point B, as a result of decades of innovation in technology and operating processes. Importantly, however, even as the airline industry was improving safety, it was equally focused on improving efficiency-especially as we moved into the era of jet travel in the 1960s. The eight-hour trip between Salt Lake and Los Angeles now takes an hour and a half even counting all the nosing around on the ground (although an argument can be made that a typical coach seat may not be that much more comfortable than sitting on the mail bags). Yet average fuel burn has been falling every year since 1960 and continues at a strong pace-in the first decade of the 21st century, fuel efficiency on domestic flights increased by another 40 percent. The airlines recognized that the public has a strong interest in safety, but that it also has a strong interest in other values as well. A more efficient airline is easier on the environment, cheaper for the consumer, and a stronger contributor to the overall economy. And, obviously, these continuing improvements in operation have been achievable without any compromise in safety.

I think you can see where I am going with this. In the aftermath of the Great Financial Crisis, the Federal Reserve, the international regulatory community, and the banking industry took action to radically improve the safety of the banking system: new capital and liquidity rules, new stress testing requirements, a new resolution framework. Together, these have greatly strengthened the safety of the financial system. Actual common equity capital ratios for large banks have roughly doubled since the crisis (and are at least six times as great as the pre-crisis requirements).

But in implementing these safety requirements, we did not pay as close attention to efficiency. Yet the public interest in efficiency is also strong, so over the last four years we have comprehensively sought ways to improve the efficiency of the system while maintaining its safety-which is every bit as possible in the financial system as it has been for the airlines. While this has been a broad project, today I want to focus on four examples of measures that illustrate this phenomenon. These measures have enjoyed support across the political spectrum because they have brought measurable benefits to the American people.

Central banking independence in times of shifting societal concerns

June 3, 2021

ECB’s Isabel Schabel in this speech discusses how high inflation in 1970s led to independent central banks. The challenges facing central banks today are different. How central banks respond to these challenges will be crucial to their existence and retaining independence:

The challenges central banks are facing today are fundamentally different from the ones that were relevant when they gained broad political independence. Inflation is less of a concern to many people, in large part reflecting the achievements of central banks over time.

As a result, expectations towards central banks have changed. Many call for central banks to have a more active role in tackling wider societal challenges, climate change in particular. Such shifts in preferences coincide with a broad distrust of far-reaching and complex monetary policy measures taken by central banks in recent years to protect the economy from a perilous spiral of falling prices and wages.

In this environment, the demands on central bank communication are enormous. Independent central banks have a duty to respond to the concerns of the public and to carefully evaluate whether and how they may be able, within their mandate, to respond to these concerns. Accountability is the quid pro quo of independence.

The ECB is doing this diligently as part of its ongoing monetary policy strategy review. We are analysing the effects and side effects of our unconventional monetary policy instruments in depth. And we are exploring if and how, within our mandate, we can contribute to the broader objectives of the Union, including by taking measures that will help accelerate the transition towards a more sustainable economy, while firmly adhering to our primary objective of price stability.

Of course the question is wide open whether central banks should work towards achieving these social goals.

Tyler Cowen interviews Mark Carney: Why a trend of recruiting central bankers from other countries?

May 28, 2021

Wide raging interview of Mark Carney in typical Tyler Cowen style. Lots of insights with wit thrown in between.

COWEN: Now, this — yourself through Stanley Fischer — as you know, there’s a trend of recruiting central bankers from other countries. So far, it seems it’s worked quite well. But what are the limits of this process of recruiting leaders in government from abroad? You wouldn’t name someone to run the Department of Defense who is from another country, right?


COWEN: What’s the margin where that doesn’t work anymore?

CARNEY: Well, candidly, I think it was a relatively unique set of circumstances when I was put in place. The UK had had a very bad financial crisis. We had a new central bank, in other words; the powers had been tripled, it had been doubled in size. There’s an opportunity to bring an outsider in, in order to help try to make that work. I don’t know. I’m a little hard pressed to see the set of circumstances where it would be immediately obvious to bring an outsider back in again.

My answer is there have been examples. The governor of the Bank of Ireland, for example, is a third example: Gabriel Makhlouf, head president. But it’s very much the exception as opposed to the rule. It relies heavily on the technocratic nature of the role.

COWEN: Are there classes of decisions where such a head should recuse himself or herself, or would just feel hesitant — very risky decisions or extending foreign lines of credit, which the Fed of course has done a lot, or exchange rate policy?

CARNEY: No. I think if you take these roles, you have to be able to take every decision no matter how small or how large. I never felt any circumstance where either I didn’t have adequate information or, God forbid, that I was somehow conflicted in my loyalties that it would have influenced the decision.

Thinking about public and private money

May 27, 2021

Jon Cunliffe of Bank of England in this speech takes one through some foundational issues about money:

In the UK, the Bank of England – a public institution– has been issuing money to the public for over 300 years. Its banknotes, carrying the famous “I promise to pay the bearer” pledge are carried in millions of wallets and purses and used millions of times every day by the public to make transactions.

These notes and coins are denominated in Pounds Sterling, the currency of the UK. It is the Bank of England, on behalf of the state, that is charged with ensuring the stable value of the currency by keeping inflation at its 2% target.

Public money for general use in the UK is only available in the form of physical cash. It is highly visible, trusted and, indeed, is probably the image that many people in this country have in their mind when they picture money.

However, the majority of the money held and used by people in the UK today is not physical ‘public money’, issued by the state, but digital private money’ issued by commercial banks. Around 95% of the funds people hold that can be used to make payments are now held as bank deposits rather than cash. In everyday use, only 23% of payments pre pandemic were made using public money in the form of cash, down from close to 60% a decade earlier.

his private money is not a claim on the state or backed with the resources of the state. It is not covered by that familiar Bank of England promise to ‘pay the bearer’.

It is not clear to me to what extent the general public understand this distinction between public and private money – or even that for most of the time they are using private money. I am not aware of any surveys or research that address this question.

I have, over the years sometimes asked the question of those I have met. Such an approach is statistically reprehensible of course and one certainly shouldn’t base policy on it. But for what it is worth, the answers suggest that people are generally unaware of the distinction between private and public money.

So should it matter if the Bank of England issues digital public money?

The question – and it is not just a question for central banks -is: does it matter if the public cannot access public money they can use in their everyday lives?

The current mix of public and private money in the UK is the result of history rather than some informed policy decision and some might argue, generally available public money is becoming an anachronism. Given we have the credible public authority framework for private money I described earlier, why should the state need to be involved in the issue of money to the public in competition with the private sector? The state does not directly provide electricity or water to the public in the UK anymore? Why should it provide money?

These are important questions that should not be brushed aside. Any decision that the state should issue a new form of digital money to its citizens cannot rest simply on the fact that the role in society of public money is declining. It must rest on an assessment of the benefits of ensuring available and useable public money and the costs and risks of letting it disappear.

Such an assessment has not yet been done in the UK and no decision has been taken to introduce a public digital money – or to use its technical name, a Central Bank Digital Currency or CBDC.

Introduction of a CBDC would be a very major public project which would have material implications for the financial sector, many parts of the economy and for society more broadly.

The Bank of England, like many other central banks, has been exploring these issues in recent years. We published a discussion paper last year with an illustrative model of a general purpose public digital currency. We will shortly publish another discussion paper on some of the public policy issues generated by new forms of digital money.


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