Friday, December 16, 2016

Nicholas Gruen — Why Central Banks Should Offer Bank Accounts to Everyone


Interesting proposal but his operational understanding is out of paradigm.

Evonomics
Why Central Banks Should Offer Bank Accounts to Everyone
Nicholas Gruen | CEO of Lateral Economics

11 comments:

Ralph Musgrave said...

Good article that. The Bank of England is taking this very seriously: I actually know someone who is moving to the BoE to do some of the research needed.

Tom: exactly what is "out of paradigm"? The only problem Gruen has missed, far as I can see, is that checking accounts at commercial banks are currently profitable for those banks because they can play the money creation trick that banks have been playing for at least a century: that's promising depositors that depositors' money is instantly available at the same time as that money is loaned on.

Unless that three card trick is stamped on, central banks may not actually be able to compete with commercial banks far as I can see.

Matt Franko said...

Ralph it is a member relationship between the CB and the depository institutions.... not a competitive relationship...

Auburn Parks said...

Ralph-

" that's promising depositors that depositors' money is instantly available at the same time as that money is loaned on. "

There is no such thing as the money multiplier. Banks dont "loan out" customer money.

Ralph Musgrave said...

Auburn, If banks don't need to attract money before lending money out, why have they dished out billions over the decades by way of interest payments and dividends to shareholders, bond holders, depositors and so on? If a bank simply lends without attracting money it will run out of reserves.

But having said that, banks ALSO do do a bit of pure money creation every year: i.e. make loans with no corresponding deposits. Hence the annual increase in endogenous or "commercial bank created" money. So it's a bit of both far as I can see: lending on existing money and also creating new money.

Tom Hickey said...

Tom: exactly what is "out of paradigm"?

"Fractional reserve banking."

Gruen: He was speaking of fractional reserve banking whereby almost all the money circulating in our economy represents claims against commercial banks like Citibank, ING or Barclays even though the deposits they hold constitute a tiny fraction of all the loans they make....

First each bank is connected to the monetary system with an ‘exchange settlement account’ with the central bank. So if you want to pay me, you get your bank to pay mine, with the net difference between all payments to and from each bank at the end of the day being squared up via counterbalancing payments between each commercial bank’s exchange settlement account with the central bank.

Secondly, because the deposits banks hold are such a tiny fraction of the loans they write, the central bank goes ‘lender of last resort’ to banks if they can’t meet withdrawals.

So the central bank is essentially the wholesaler of banking services with the commercial banks like Citibank retailing those services to all.


The LLR is central bank lending when a commercial bank is under its reserve requirement at the end of a period. This is irrelevant to a bank being able to meet withdrawal demand. When banks need settlement balance to settle they borrow in the interbank market at the overnight rate. The central bank uses monetary operations (OMO) to ensure that sufficient funds to clear are available at its target rate. That's how the central bank controls the rate when not paying IOR or setting the rate to zero.

Auburn Parks said...

"why have they dished out billions over the decades by way of interest payments and dividends to shareholders, bond holders, depositors and so on? "

Because interest on deposits is cheaper then rates on borrowing reserves. And interest they pay out on deposits is less then interest received on loans hence "the spread" wherein banks make some of their profits. Why did you say this like it was supposedly meaningful to your argument?

"If a bank simply lends without attracting money it will run out of reserves."

Not really as the loans generate an asset equal to the deposit liability aka Neil Wilson's brilliant "splitting the zero" framework (the loan asset is actually much more valuable then the deposit liability over the long term). So banks can always sell the mortgage to a third party to replenish any needed reserves. So as long as a bank is doing responsible lending and asset management, reserves are never an issue (especially since they are usually, absent a QE environment, a tiny percentage of a banks assets).

"But having said that, banks ALSO do do a bit of pure money creation every year: i.e. make loans with no corresponding deposits."

No Ralph, bank loans create bank deposits so this doesnt happen

"Hence the annual increase in endogenous or "commercial bank created" money. So it's a bit of both far as I can see: lending on existing money and also creating new money."

nope.

Tom Hickey said...

If banks don't need to attract money before lending money out, why have they dished out billions over the decades by way of interest payments and dividends to shareholders, bond holders, depositors and so on? If a bank simply lends without attracting money it will run out of reserves.

Banks need settlement balances (reserve balances) to settle. First they net intrabank and interbank and then borrow settlement balances, e.g., in the overnight market at the overnight rate.

Banks make a profit on the spread between their average borrowing cost (expense) and average loan interest (revenue).

Banks have asset and liability management departments (ALM) that figure the lowest average rate at the desired distribution of maturities. Demand deposit accounts are the lowest rate since banks ordinarily don't pay interest on demand deposit accounts. But being on-demand accounts the maturity is short, so banks also offer longer maturity time accounts — saving accounts and CDs that pay more interest — to manage term.


Auburn Parks said...

Tom-

"The LLR is central bank lending when a commercial bank is under its reserve requirement at the end of a period. This is irrelevant to a bank being able to meet withdrawal demand. When banks need settlement balance to settle they borrow in the interbank market at the overnight rate. The central bank uses monetary operations (OMO) to ensure that sufficient funds to clear are available at its target rate. That's how the central bank controls the rate when not paying IOR or setting the rate to zero."

I'd also add that the Fed's LLR responsibility plays out because people stop trusting the bank's assets like we saw with the MBS portion of QE. IOW a bank's asset to liability composition depends largely on its assets maintaining their claimed market value as the bank cant shed its liability costs and structures as fast as the value of their assets can crash.

E.G. in 2007 Chase might have had something like $3 trillion in liabilities and $3.5 trillion in assets but the stocks\securities\etc. held by Chase might have decreased in value by 50% had the Fed not stepped in to stabilize the markets and thus the values of bank assets. Thats why the Govt had to bail out AIG to the tune of $180 Billion, because banks had so many of their asset values tied up in AIG liabilities (insurance contracts) and therefore if AIG goes bankrupt and cant pay out its liabilities, the banks balance sheets take a huge hit cause the AIG assets they held would have become hugely discounted.

Same thing with MBS, if CHase has $1 trillion worth of MBS as assets on its Balance sheet and the crash happens and nobody is willing to buy these trash MBSs (trash now largely because households are losing income and cant service the loan like Mosler says "the only difference between a good loan and worthless MBS is the ability of the household to pay their mortgage"). So the Fed has to step in to play market maker of last resort, announces they are going to buy a couple trillion MBSs, puts a floor in the market value and all of a sudden what was just months prior a total meltdown of the mortgage market, now we have mortgage rates (MBS prices) at all time lows (highs).

Thats why we should envisage the role of Fed LLR more broadly as not jjust lender or reserves, but guarantor of market values. Hilarious that people demonize the PBOC for doing this stuff but ignore the reality to how the same thing works in US markets.

Matt Franko said...

"depends largely on its assets maintaining their claimed market value as the bank cant shed its liability costs and structures as fast as the value of their assets can crash. "

imo works the other way too... iow when their other asset values are increasing they will shed reserve assets in order to maintain a constant Capital:Asset ratio as Capital is fixed short term.... this moves the exchange rates if international finance is involved...

From the bank's perspective, they seek to maintain a target fixed/constant Capital:Asset ratio

Neil Wilson said...

"Auburn, If banks don't need to attract money before lending money out, why have they dished out billions over the decades by way of interest payments and dividends to shareholders, bond holders, depositors and so on? "

Because the government issues Cash, Gilts, offers National Savings that compete with the deposit accounts.

Banks need to attract risk capital. Deposits are a useful form of capital in an insured system without a central active lender. It just reduces the size of balance sheets overall which reduces systemic risk - just as a central clearing house does. You don't have as much up in the air.

Which you would know if you'd actually ever worked for a bank.

Neil Wilson said...

"Banks need settlement balances (reserve balances) to settle"

That's a misconception.

Banks *never* needs reserves. Reserves are just a useful way of getting to a particular position. But there is no requirement to use that system


At the end of the day in a working bank clearing system (sans government), the central bank has no position in the commercial banks. It is just a clearing house so that the commercial banks can decide which bank is lending to which other bank overnight.

To be able to move money from one bank to another, the other bank has to take your position as depositor in the source bank. That is how transfers between banks work. Those new positions are then swapped around in the market until everybody is comfortable with the price/risk ratio.

Reserves are literally irrelevant to the process of banking. At best they alter the return a bank makes on its lending assets (since you are lending to the central bank at a lower rate than you can lend elsewhere relative to your capital requirements).