Christine Lagarde, the current managing director of the International Monetary Fund and soon-to-be European Central Bank governor, has warned of the disruption and systemic risk threatened by a privatisation of global payments.
She contrasted the “permissioned” system overseen by governments and regulators with the “permission-less” systems of cryptocurrencies.
The banking establishment may have been initially passive in its response to a financial services currency revolution, adopting a watch-and-wait attitude, but that is now changing and the BIS, for example, has launched an “Innovation Hub”, with operations in Singapore, Hong Kong and Switzerland, to be ready for radical change.
According to Mark Carney, Chair of the Economic Consultative Committee and governor of the Bank of England, "there is a new economy emerging driven by changes in technology, demographics and the environment”.
“While the private sector is driving these innovations, their efforts will be more effective if the hard and soft infrastructure of the global financial system support this innovation, promote resilience and level the playing field on which to compete,” he said on the announcement of the hub this month. “Central banks have a major role to play. The BIS Innovation Hub will foster collaboration between central banks and, by extension, help the private sector to fully realise these major opportunities."
Among the more advanced central banks in investigating digital currencies is the Swedish central bank, the Sveriges Riksbank.
In a recent special edition of the bank’s Economic Review, economist Reimo Juks reported research showing a central bank-issued “e-krona” could exacerbate runs on traditional banks however “the exact features of an e-krona can be controlled by the policy maker. In sum, we do not find any decisive argument against the issuance of an e-krona when studying financial stability effects on banks”.
In their own special report, credit ratings agency Standard & Poor’s was more categoric about Facebook’s Libra:
“Unlike the current banking system, credit creation in the Libra system would mean that credit is created across borders,” the agency said.
However, S&P believes governments are unlikely to let that happen without any regulation for two reasons:
- Monetary sovereignty - governments are unlikely to hand over control of monetary sovereignty to the private sector.
- Financial and macroeconomic stability - if the Libra took off as a global currency, that would have important ramifications for financial and macroeconomic stability. After all, this is why central banks exist in the first place.
“The mandate of monetary policy is to steer the economy to its potential output by providing a stable price environment and ensuring that financial stability risks are contained,” S&P said. “There is no incentive for the private sector to do that, which is why governments would likely limit the Libra's scope through regulation, most likely by treating the authorised intermediaries as a bank if they start taking on deposits and creating credit.”
This gets back to a now familiar Catch-22: regulators are happy to let innovation thrive until it gets to the point it has genuine scale. Then they regulate to keep the system intact – the very system the innovation was designed to disrupt.
As the Bank of England puts it “innovation is to be approached with an open mind but not an open door”. Or the BIS: “same activity, same regulation”.
The scale of Facebook’s Libra project and the broader implications of “big tech” taking on the whole financial system rather than just components is certainly a wake-up call.
As Teodoro Cocca, professor for asset and wealth management at Johannes Kepler University in Linz, says: “a second-generation wave of fintech is approaching, with the mega global players of Silicon Valley developing alternative eco-systems that include financial services without a direct implication of a bank”.
“If you look at it that way, the Facebook plan is a strategic provocation.”
Of course, that’s a western-centric perspective. In China, bigtech has already taken over payments and has massively encroached on retail banking.
Social/commerce platforms Tencent and Alibaba both have their own mobile payment systems, WeChat Pay and Alipay, which between have over 90 per cent of the $US18 trillion Chinese payments market.
While these services are not – yet - proprietary currencies as the underlying payment is a traditional currency, the platforms carry informal deposits, schedule payments, make loans, manage finances and offer myriad other services for Chinese citizens and merchants.
They are systemically important. And so, as of this month, the Chinese central bank has started to more heavily regulate them…
Andrew Cornell is managing editor of bluenotes