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Reserves for All? Central Bank Digital Currency, Deposits, and Their (Non)-Equivalence Dirk Niepelt Study Center Gerzensee; University of Bern; CEPR; CESIfo This paper oers a macroeconomic perspective on the “Reserves for All” (RFA) proposal to let the general public hold electronic central bank money and transact with it. I pro- pose an equivalence result according to which a marginal sub- stitution of outside money (e.g., RFA) for inside money (e.g., deposits) does not aect macroeconomic outcomes. I identify key conditions for equivalence and argue that these conditions likely are violated, implying that RFA would change macro- economic outcomes. I also relate the analysis to common argu- ments found in discussions on RFA and point to inconsistencies and open questions. JEL Codes: E42, E51, E58, E61, E63, H63. 1. Introduction Far into the 20th century central banks commonly oered accounts not only to a select group of nancial institutions but also to nonbanks (Bank for International Settlements 2018). This liberal approach has given way to a monetary arrangement where the gen- eral public typically holds only one form of central-bank-issued money, namely cash. Access to electronic central bank money “reserves”generally is restricted to nancial institutions with This article was submitted in October 2018 and accepted for publication in March 2019. For valuable comments, I thank the editor, an anonymous referee, Ernst Baltensperger, and conference participants. For discussions on the subject, I thank Markus Brunnermeier, Stijn Claessens, Egemen Eren, Petra Gerlach, Thomas Jordan, Carlos Lenz, Cedric Tille, and Fritz Zurbr ugg. I am grate- ful to Morten Bech for sharing the money ower diagrams reproduced in the working paper. Author contact: P.O. Box 21, CH-3115 Gerzensee, Switzerland; dirk.niepeltszgerzensee.ch; niepelt.ch. 211212 International Journal of Central Banking June 2020 which the central bank interacts. When households or nonnancial rms pay electronically, they use privately issued money (e.g., bank deposits), not central bank money. The advantages and disadvantages of this monetary arrange- ment are the subject of an intensifying debate which takes place against the background of fundamental changes in the nancial sys- tem (including technological innovations, the entrance of new play- ers “ntech” and “bigtech”, and new payment systems) as well as questions about the future of cash and interest in private dig- ital tokens like Bitcoin (BIS 2018). At the same time, the debate testies to a loss of trust in traditional banks after the recent nancial crisis and an increasingly critical attitude toward their role in money and credit creation. While this attitude has only recently gained prominence in the political arenamost notably in the Swiss constitutional referendum on “Vollgeld” (sovereign money) 1 it is much older and precedes the recent changes in tech- nology and market structure (e.g., Knight et al. 1933; Fisher 1935; Tobin 1985). In this paper, I oer a macroeconomic perspective on the impli- cations of letting the general public access central bank money in electronic form“Reserves for All” (RFA). Rather than emphasiz- ing technological aspects, I focus on the key macroeconomic ques- tion of interest, namely the dierence between bank-issued “inside” and central-bank-issued “outside” money (section 2). 2 In section 3, I lay out an equivalence result according to which a substitution of outside for inside money, possibly accompanied by transfers, is neu- tral: When a scalmonetary policy implements an equilibrium with 1 On the Swiss “Vollgeld” initiative, see vollgeld-initiative.ch/ english/. See sovereignmoney.eu and international moneyreform for the policy discussion in other countries, including Iceland and the Netherlands. 2 The working paper (Niepelt 2018) places the debate on central bank digital currency in a broader context. It relates RFA to other types of money (see also Bech and Garratt 2017; BIS 2018) and distinguishes it from central-bank-issued cryptocurrencies for retail use (see also Koning 2014; Andalfatto 2015; Barrdear and Kumhof 2016; Raskin and Yermack 2016; Berentsen and Sch ar 2018) or wholesale use (see also UBS 2016; Chapman et al. 2017; Monetary Authority of Singapore 2017; Payments Canada, Bank of Canada, and R3 2017; and BIS 2018). The working paper also discusses current RFA projects; see Mancini-Grioli et al. (2018, p. VI) for an overview of central banks pursuing such projectsVol. 16 No. 3 Reserves for All? 213 inside money, then an alternative scalmonetary policy with more outside money and with transfers also implements an equilibrium, with less inside money but the same allocation and price system. This result suggests that the macroeconomic eects of RFA are negligible. But, as I discuss in section 4, the equivalence proposition relies on conditions which are likely violated in real-world settings. Most importantly, these conditions relate to government (central bank) incentives. Against this background I assess in section 5 the plausibil- ity of various suggested implications of RFA, including on nancial stability, national saving and investment, and the conduct of mone- tary policy. I conclude in section 6 that some suggested implications are at odds with my analysis and that the policy discussion so far has been missing important elements. 2. Reserves for All In the following, I consider arbitrary forms of centrally managed, electronic central bank money. The key aspect I am interested in is universal access, which is the possibility for the general public to hold electronic central bank money and directly transact with it. 3 The system I consider, then, is a system where reserves serve as unit of account, store of value, and means of payment not only for institutions in the nancial sector, as they do today, but also for households and rms outside of that sector. With this focus on universal access in mind, I do not take a stance on technical aspects such as whether payments would be made using a traditional payment system or a distributed ledger, and whether RFA would be held in a central bank account, an o-balance-sheet account managed by a service provider on the basis of a public private partnership, or on a prepaid card. From a macroeconomic perspective, these considerations are of second order even if they are 3 One might argue that electronic central bank money already serves today as means of payment for retail use because a customer payment from one commer- cial bank to another is settled with central bank money. However, the dierence is that in the current system, customers must hold private bank deposits (and typically do so for an extended period) before they can use them to make a payment214 International Journal of Central Banking June 2020 of rst-order importance for many operational, legal, and technical questions. 4 The proposal to make central-bank-issued digital money accessi- ble to the general public in order to provide a partial substitute for cash and bank deposits dates back, at least, to Tobin (1985, 1987). Recent discussions include Gro (2013), Koning (2014), and Niepelt (2015). 5 Tobin (1985) emphasizes the benets for society of having access to an electronic means of payment (as opposed to cash only) and being able to rely on a robust payments system. He argues that institutional features that promote robustnessfor example, deposit insurancerequire regulatory limits on competition and asks how to “strike a balance between competitive eciency and the protec- tion of depositors” (p. 25). Against this background, he suggests that “deposited currency100%-reserve depositspayable in notes or coin on demand, transferable by order to third parties, secure against loss or theft, would be a perfect store of value in the unit of account” (p. 25). Similarly, Tobin (1987) proposes “deposited currency accounts.” He suggests (pp. 17273) that “the government should make avail- able to the public a medium with the convenience of deposits and the safety of currency, essentially currency on deposit,” and he proposes dierent institutional arrangements to implement such a system. In one arrangement, “the Federal Reserve banks themselves could oer such deposits, a species of Federal Funds. . . . Transactions . . . would be cleared through the Federal Reserve” although customer services could be provided, against a fee paid by the Federal Reserve banks, by private banks or post oces. (Today, only few such services presumably would be needed, due to the Internet. 6 ) “Interest at a 4 For a discussion of legal aspects pertaining to RFA under Swiss law, see Reiser and Wyss (2018). 5 Gro (2013) envisions a form of digital cash that is available to users free of charge, subject to no transaction fees, bearing no interest. See also Motamedi (2014). Many additional contributions discuss RFA against the background of proposals to relax the eective lower bound on interest rates; see the discussion in section 5 and in the working paper. 6 Tobin speculates that “computer capabilities should soon make it possible to withdraw conventional currency at any oce or agency, and even to order payments to third parties by card or telephone.Vol. 16 No. 3 Reserves for All? 215 rate suciently below the rates on Treasury securities to cover costs could be paid, and some costs could be charged to accountholders.” In an alternative arrangement envisioned by Tobin, “banks and other depository institutions could oer the same type of account, or indeed be required to do so. The deposited funds would be seg- regated from the other liabilities of the institution, and invested entirely in eligible assets dedicated solely to those liabilities. These would be Federal Funds or Treasury obligations of no more than three months maturity.” Tobin discusses that deposited currency accounts would only have to be insured “against malfeasance by the agent or depository” but not against illiquidity or insolvency. “Thus, a part of the payments system would be secure without the help of deposit insurance.” Both before and after Tobin, many economists, central bankers, and practitioners have voiced concerns that the ability of commer- cial banks to “transform maturity” and create money causes fragility and instability, calling for the creation of narrow banks. Most promi- nently, in the 1930s, faculty from the University of Chicago pro- posed a “Chicago plan” to end fractional reserve banking and thus, to separate credit from money creation (Knight et al. 1933; Fisher 1935, 1936). 7 In response to the nancial crisis of a decade ago, Kay (2009) argues that complex regulatory frameworks should make way for simple structural rules and a “rewall between retail deposits and other liabilities of banks.” Kotliko and Goodman (2009) and Kotliko (2010) go further and propose a system of “limited pur- pose banking,” in which nancial intermediaries are reduced to man- agers of equity-nanced mutual funds. 8 King (2016) proposes that all short-term bank liabilities should be covered by liquid assets and a central bank credit line which depends on the assets lodged at the central bank to serve as collateral when needed. 9 7 Benes and Kumhof (2012) revisit the Chicago plan and oer a quantitative assessment. Similar to the Chicago plan, the Swiss “Vollgeld” initiative proposed a complete ban on private money creation. The initiative was rejected in 2018. 8 Melaschenko and Reynolds (2013) propose a resolution mechanism that shares features of equity nancing. 9 McMillan (2014) emphasizes that proposals to implement narrow banking restrictions pose the problem that regulators need to distinguish between nan- cial and nonnancial companies, which is not always trivial and could give rise to regulatory arbitrage. As a solution to this problem, McMillan (2014) proposes a216 International Journal of Central Banking June 2020 These proposed narrow banking arrangements dier from RFA because RFA does not directly constrain the business model of banks or their ability to create inside money. RFA simply provides the pub- lic with an electronic means of payment that serves as an alternative to deposits and other forms of private money. Of course, a complete migration of bank deposits to RFA would in eect create narrow banks. However, these banks would not be narrow due to a reg- ulatory constraint but because bank deposits would no longer be commercially viable due to the introduction of RFA. 3. Equivalence To organize the discussion of possible consequences of RFA, I pro- pose an equivalence result according to which inside money is irrel- evant from a macroeconomic point of view. An implication of the result is that the introduction of RFA and its substitution for inside money does not have macroeconomic consequences. After laying out the logic of the argument in this section, I turn in section 4 to a discussion of key assumptions underlying its validity. In section 5, I confront the ndings with common arguments found in discussions on RFA. The equivalence result is in the spirit of Modigliani and Miller (1958), Barro (1974), Wallace (1981), or Chamley and Polemar- chakis (1984). 10 Its purpose is to provide a benchmark, not the most realistic description, in order to identify key conditions for equiva- lence and thus, potential sources of non-equivalence. The macro- economic perspective I adopt leads me to emphasize the economys aggregate balance sheet (or consolidated intertemporal budget con- straint). This contrasts with partial equilibrium intuitions inspired by models in the tradition of Diamond and Dybvig (1983) which underlie many arguments in the debate. The basic intuition for the result is as follows: Inside money serves various functions in the nonbank sector. RFA, possibly accompanied rule according to which any companys nancial assets should always be nanced by equity. 10 For a textbook treatment of equivalence results, see Sargent (1987, 5.4Vol. 16 No. 3 Reserves for All? 217 by scal interventions, can also serve these functions, without redis- tributing resources or aecting incentives in the nonbank private sec- tor. Inside and outside money thus can be substituted for each other, subject to appropriate scal interventions, without macroeconomic consequences. Money serves as a unit of account, a means of payment, and a store of value. Since central bank moneycash or reserves at the central bankserves as the unit of account, a substitution of out- side for inside money does not aect the rst function of money. I therefore focus on the role of money as a store of value or means of payment. Moreover, I restrict attention to inside moneybank depositsthat are not “backed” by outside money in the banks balance sheets (that is, I focus on the deposits that drive the money multiplier above one). The share of inside money that is “backed” by outside money could be taken o the banks balanc
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