Taking the Banking Out of Cash

Digital currencies could allow central banks to deal direct with citizens.
At Closing, April 23rd
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DBS Group Holdings Ltd.'s ultimate goal is to take the cash out of banking.

"It's expensive, it's clunky," Tan Su Shan, the Singapore-based lender's head of consumer banking explained to Bloomberg TV's Haslinda Amin Tuesday.

Unfortunately for DBS, the same might be said for banking itself. And if monetary authorities follow through on some early research, the end result may be to take the banking out of cash. That sounds like hyperbole, but it's not all that far from reality.

The Monetary Authority of Singapore is preparing to test its own digital currency, which, if implemented, would allow banks to make settlements directly with each other instead of going through an intermediary. Those lenders could then redeem the digital currency for cash, MAS Managing Director Ravi Menon said in a speech this month.

The distributed ledger nature of a digital currency allows banks to take out the middleman and deal directly with each other. Good news, except when you consider that banks themselves are simply go-betweens for transacting parties.

Bitcoin has already connected the coffee seller with the caffeine junkie. Now imagine if an issuer of national currency decided to go straight to the average citizen.

That's exactly what the Bank of England is considering.

In a 92-page working paper published in July, economists John Barrdear and Michael Kumhof studied:

The macroeconomic consequences of issuing central bank digital currency -- a universally accessible and interest-bearing central bank liability, implemented via distributed ledgers, that competes with bank deposits as medium of exchange. (emphasis added.)

Under their proposed model, citizens could park their money directly at a central bank. While commercial banks would still exist for deposits and loans, a "substantial portion" of retail transactions might switch to the monetary authority's digital currency, they said.

With individuals able to have an account direct at a country's central bank -- by virtue of holding its digital currency -- a lender like DBS would have to offer incentives, such as better rates, to keep money flowing through its doors.

Having access to end users would also make monetary policy fast acting. Instead of waiting for financial institutions to pass on changes in interest rates, central banks could just do it themselves.

Stimulus Lost

The interest paid on some of the shortest mortgages in the U.K. versus the Bank of England official rate shows average citizens haven't really felt the full impact of monetary policy

Source: Bloomberg

While that might sound like a doomsday scenario for banks and their shareholders, central banks may not mind.

Without intermediaries, a lot of the money that flows through lenders could go straight into the economy. By Barrdear and Kumhof's calculations, issuing digital currency equivalent to 30 percent of GDP -- a figure they estimate as being equivalent to the scale of quantitative easing over the past decade -- could permanently increase an economy by as much as 3 percent thanks to reductions in real interest rates, distortionary taxes and monetary transaction costs.

Wealth Redistribution

The 500 biggest banks in the world made more than $640 billion in profit over the past 12 months from all those fees and interest-rate premiums

Source: Bloomberg

And what economists like to call taxes and costs, bankers prefer to label fees and interest-rate spreads. Now what would be the point of banking without those? 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

    To contact the authors of this story:
    Tim Culpan in Taipei at tculpan1@bloomberg.net
    Christopher Langner in Singapore at clangner@bloomberg.net

    To contact the editor responsible for this story:
    Katrina Nicholas at knicholas2@bloomberg.net

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