Global Economic Symposium (GES): The Future of Global Money

Anfang September bin ich beim Global Economic Symposium (GES) in Kuala Lumpur. Dort bin ich Teilnehmer am Panel “The Future of Global Money”. Das Programm findet sich hier:

Programm Global Economic Symposium 6-8. September 2014

Die Teilnehmer des Panels wurden gebeten, ein Paper einzureichen. Hier meine Ideen zur “Future of Money”:


Reinstate the seigniorage prerogative solely with central banks!

Stability in a world of fractional reserve banking can only be illusory

The current fractional reserve banking practice that has been in place for the past many decades bestows upon banks (i.e. non-central banks) almost unrestricted powers to “create money”. Money deposited by customers with banks becomes the property of the banks. Banks then exploit this ownership right by recycling the same money base multiple times, increasing the amount of debt (liability) on their balance sheets. Measures like the Reserve Ratio, intended to serve as checks in this system, do not hinder the banks’ license to create new money in any way. Through this process, the amount of non-cash money in the form of sight deposits at banks has also been steadily growing. As a result, the prevalent money supply is not that issued by central banks, but predominantly that created by non-central banks.

Consequently, debt in the economy – in relation to GDP as well as in absolute terms – has reached epic and unsustainable proportions, especially among the western and prominent emerging economies. The total government debt in the world has crossed the $100 trillion mark, having risen by $30 trillion since just 2007 . Moreover, even private (household) debt as a percentage of GDP has exceeded the 100% mark. Such reckless debt creation is only possible in a fractional reserve banking system. Conversely, as long as this system is in place, debt creation will have to keep increasing, as it is only by doing so, that the banks will be able to increase or sustain their profitability.

Economic cycles are aggravated by such high debt levels in the economy. Debt-ridden economies like Greece, Ireland, Italy and Portugal are trapped in a vicious cycle, where the economic growth critical for their progress is severely constrained by the austerity covenants imposed on them by creditors. Capital investment necessary for sustaining growth and long-term competitiveness has had to be reined in, even in other better-off countries, so as to have a buffer against the severe bust effects of financial cycles.

Amidst these unprecedented developments, conventional and currently available monetary and fiscal rectification measures have reached their limits and are losing their effectiveness – the rock-bottom ECB interest rates being among the latest examples. Modifying tax regimes, rolling over debt and/or forcing haircuts on the creditors, will similarly provide only temporary relief, and not tackle the debt overhang problem at its roots.

To get out of the debt overhang problem, we need to switch to a new economic order at the earliest! This new order should avoid repeating the mistakes of the hitherto system, e.g. the one-sided incentives for banks in the prevalent fractional reserve system, which are severely damaging to society at large. Adopting a seigniorage reform, and migrating to a sovereign money system, where only central banks have the seigniorage prerogative, can help address all above issues. It will tackle the debt overhang problem at its roots, lay the foundation for sustainable growth of the real economy, and substantially mitigate the effects of business cycles.

Seigniorage reform for a sovereign money system is the best option currently available

A sovereign money system with full, i.e. 100%, reserves was already proposed during the Great Depression in the 1930s by a handful of prominent economists from Chicago, in what became to be known as the Chicago Plan. An application of the Chicago Plan adapted to today’s banking world would have greater appeal than measures like:

  • Return to the gold standard: too inflexible
  • Private money creation, as advocated by Hayek: higher transaction costs; banks still able to create own money, so boom-bust cycles not mitigated

Think tanks and (not-for-profit) organizations like Monetative e.V. , Positive Money , The New Economic Foundation (NEF) , had been advocating such a seigniorage reform actively since the 2008 financial crisis. Following the publication in 2012 of an IMF Working Paper titled “The Chicago Plan Revisited” by authors Jaromir Benes & Michael Kumhof , the seigniorage reform movement has been gaining traction. This momentum should be capitalized upon for implementing the necessary reform.

Steps in implementing seigniorage reform

Implementing such a seigniorage reform would help realize the desired goals of greater financial stability and one-off debt restructuring. Doing so is practically feasible too. The routine activities and structures of banks and financial institutions will hardly change. Neither the customers’ nor the banks’ possessions will be touched or expropriated. Of course, banks’ shareholders would have to expect lower returns, as banks would henceforth be deprived of the special profits from seigniorage that they had been able to make for decades under the fractional reserve banking system. Instead, the central banks will rightly be privy to the seigniorage profits.
The following could be a possible roadmap to implementing such reform.

1. Central banks like ECB, Fed, BoE declare a date, the Set Date, for implementing the reform

2. On the Set Date, they extend their current seigniorage statutes to non-cash money. They declare sight deposits, along with banknotes and coin, as legal tender. As a result, banks will no longer be legally able to create new money by means of the current practice of creating sight deposits. This measure would also be reflective of current times, where money in circulation has attained more of informational and symbolic value, as opposed to the intrinsic value it once had.

3. Customers’ current accounts:

a) Ownership of these accounts will be taken away from banks and restored with the customers
b) Banks will merely manage these current accounts for their customers
c) These accounts will be taken off the balance sheets of banks. They will no longer be debt (i.e. liability) of banks towards customers
d) Instead, they will rightfully become assets of the customers
e) Bank loans to customers will be paid out of operational accounts held by these banks with the central bank, into the customers’ current accounts

Banks’ current accounts and balance sheets:

a) Asset side:
i) Banks’ own money will exist as cash in the banks’ tills, or as non-cash money in their operational accounts with central banks
ii) Existing loans made by banks to loan-taking customers appear as the banks’ assets
iii) The funding shortfall for banks arising on the Set Date (see below) will be bridged by the central bank by providing a Treasury Credit
b) Liabilities side:
i) Sight deposits of banks will be converted on the Set Date into liabilities towards the central bank. These liabilities will be paid off by banks over a pre-determined transition period of, say, 5-7 years, and/or these liabilities could be netted off against assets, like Government Bonds (Debt), held by the banks
ii) Loans that banks want to make to customers will be financed either through banks’ own money as above, or by borrowing from bank customers and/or other banks. Extending loans will thus still keep the stock of money in circulation unchanged

5. Central banks’ accounts and balance sheets:
a) The claims of central banks on liabilities owed to them by banks, will be assets of central banks
b) These assets will be reduced or eliminated as banks pay off their liabilities towards central banks. Similarly, these central bank assets could be netted off against their own liabilities like Government Bonds (Debt). Any excess “gains” through the transition process should be used to reduce the private debt overhang as well. (As Benes & Kumhof have shown the amounts would be sizeable).
c) New money will be introduced into circulation by the Issuing Department of central banks, which will be separate from their Banking Department (which manages current flows of existing money)
d) New money will be credited to the Treasury or Finance Ministry. This will appear as assets for the Issuing Department, matched by liabilities in the form of coin, notes, and sight deposits issued. The new money could also be credited to all citizens – on an agreeable and equitable basis – so as to first get rid of private debt

6. The use of new money issued can be entrusted either to the Banking Department of central banks, or to an independent body constituted democratically for this purpose. One use of the new money could be to directly inject it into necessary capital investment projects, thus addressing the current problem of capital investment shortfall. In addition, it could be linked to a steady and sustainable growth rate, determined by an algorithm as with the bitcoins, and credited on every January 01, on a per capita basis from newborn to pensioner

Evaluation of proposed measures, and potential next steps

For the above measures to be effective, making bodies like central banks independent and free of political influence and interests is critical. Likewise, the human, corporate or institutional ability to circumvent such a system should not be underestimated. To safeguard such circumvention, adequate implementation and control measures, supplemented by growth-sustaining investment and payback measures like algorithm-based one mentioned above, will have to be instituted.
There will understandably be anxiety towards, and strong resistance (especially from the commercial banks’ lobby) against, the introduction of such a large-scale reform. Yet the benefits from implementation of this new system will far outweigh the resisting forces. Not only will we have tackled the huge, debt overhang problem in one stroke, but any new debt that we create will be at sustainable levels and will be put to productive use for generating sustainable growth in the real economy!

The author likes to thank Mr. Shirish Pandit for his support in preparing this paper.


BIS Quarterly Release, March 2014

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In den kommenden Tagen werde ich die Diskussion mit den anderen Diskutanten hier dokumentieren und natürlich auch von der Konferenz berichten! Stichwort: GES