New Money, CBDCs and the Bank of England

NEW MONEY FOR OLD: HOW THE BANK OF ENGLAND PLANS TO REVOLUTIONISE THE MONETARY SYSTEM

IS there anything new to say on the Scottish currency question? Yes! This article might get a bit techy but persevere because there are big changes coming to the money you use, independence or not.

At the start of this week, Bloomberg financial news service published a story that has gotten lost amid the wall-to-wall Covid coverage. It said that Andrew Bailey, Governor of the Bank of England, is looking into the bank creating its own digital currency. According to the charisma-free Mr Bailey: “I think in a few years time, we will be heading toward some sort of digital currency.”

Now you thought that we already had digital money. We’ve all used our debit card to buy something. Post-Covid, most of us have gotten used to swiping our card at the supermarket rather than using notes and coin. In fact, these days, I’m never sure what I’ve spent because I just wave my card at the reader.

What does Mr Bailey mean by a “new” digital currency supplied by the BoE? To understand you first have to forget the form money comes in and grasp who makes it. The money (cash or card) that we use today is manufactured by private banks such as RBS or HSBC. How?

When banks make a loan, they essentially invent the money they are handing out, e.g. as a mortgage or giving a small business some credit. This loan represents an asset for the bank, as we promise to pay interest. You’ll ask: how can a private bank just invent loans?

If you think about it, the loan (asset) exactly balances the liability the bank has created by inventing a lump of new money. So: the bank’s books seem to balance. The only problem arises if somebody, somewhere, sometime wants to turn the money the bank “invented” (by making a loan) into real cash.

Here Mr Bailey and the BoE step in. The BoE makes private banks hold accounts (reserves) at its HQ in Threadneedle Street in London. If banks need ready cash (notes or electronic) then they can draw on their reserves at the BoE. Indeed, the BoE will help them out with a cheap overdraft, if a bank gets caught short – just like the overdraft a private bank offers its own customers.

So today there are two kinds of money around. First, the stuff manufactured by private banks when they make loans – which constitutes the vast bulk of money in the economy. We’ll call this bank deposit money. And second, the reserve money created by the BoE. So far, so good.

ENTER THE CBDC

What you have to understand is that this arrangement is about to change big time. There are new players are in the money manufacturing business. And since money is what makes the world go round, this implies a major potential shift in political and economic power. In this digital revolution, private banks are going to find themselves squeezed out of the money manufacturing business.

We are moving into an era when bank deposit money will be replaced with so-called digital cash. This is already pre-figured in Bitcoin and its competitors. Bitcoin is a cryptocurrency. These early forms of digital money use encryption to secure transactions and control the creation of new units. Bitcoin is an attempt to make a form of currency not controlled by governments or private banks, that can be traded globally without having to reveal your identity. The trouble with Bitcoin is that it is a gigantic financial bubble.

Enter the idea of central bank digital currencies, aka CBDCs. In other words, state central banks like the BoE decide to offer their electronic money directly to you and me, instead of restricting their activities to providing private banks with cash reserves. Exit Bitcoin, enter BoE digital money.

Leave aside for the moment how the BoE gets cash into your electronic wallet. Ask first why the BoE (or any other central bank) wants to do this? The main arguments revolve around increasing the stability of the monetary and financial system – not inconsequential given the speculative banking crises of recent decades.

Theoretically, if the central bank issues most of the money directly to individuals (cutting out wobbly private banks) then we reduce the threat of runs on bank deposits – folk trying to get their cash out of the bank in case the bank collapses. Which, of course, actually causes the private bank to fold. But if the BoE gave every citizen a personal bank account, then the money you kept in that account would be 100% safe. If everyone rushed to take money out of their BoE account, the BoE would simply invent more central bank reserves to cover the demand. The BoE can’t go insolvent because it’s the government’s bank.

Also, CBDCs make it easier for central banks to impose their monetary policy. If a central bank wants to stimulate the economy, it can simply pay you an interest rate directly on your digital cash holdings – giving you more to spend. Equally, the central bank could charge you interest on your CBDC holdings if it wanted to cool a consumer boom. This is not so different from the Treasury lowering and raising taxes, but it allows the politicians to dodge the bullet of responsibility.

I know all this sounds a mite esoteric. But as Mr Bailey says, central banks everywhere are very interested in CBDCs. One reason is that if they don’t get involved, then private capitalist interests will get there first. The front runner to introduce a global digital currency is our old friend Facebook. The prototype Facebook currency is called “libra” – think libertarian rather than the star sign.

Facebook wants to monetise its global client base by getting them to use libra as payment through its own electronic wallet. Plus, draw in the 1.7 billion people around the globe who don’t have a bank account. This would allow Facebook to dominate the world’s payments system and rake off a percentage along the way. Never mind giving Mr Zuckerberg a sneaky look at everything anyone on the planet was buying. Think of how Facebook could use that data.

Since Facebook announced plans for libra last year, most governments on the planet (and their central banks) have gone into overdrive to thwart the project. Mark Zuckerberg may think he can dominate the planet but the Chinese, American and EU superstates beg to differ. Hence the rush by central banks to develop their own CBDCs, to protect their economic space from Facebook.

Here we get to the nub of the CBDC issue. Digital cash – like digital everything – threatens to subvert national boundaries and undermine state power. We are seeing a clash between globalism (especially as represented by US high tech) and local nationalisms. Not only that, authoritarian and populist governments have suddenly realised that introducing CBDCs gives them huge power over their populace – power to track spending decisions and power to directly control consumption patterns.

IMPACT ON SCOTLAND

Which brings us to Scotland. The SNP’s Growth Report shackles an independent Scotland to using sterling. I know the SNP spring 2019 conference voted to introduce a separate Scottish currency “as soon as practicable” but that is hardly an injunction to make haste. Meantime, the BoE is planning to change the monetary ground rules with CBDC.

It is one thing to keep sterling when the bulk of money emanates from a private banking system with deep local roots in Scotland. It is wholly another matter if the BoE adopts a CBDC regime and takes over responsibility for issuing the entire currency. Which would leave indy Scotland’s entire monetary policy run by Mr Bailey or his successor.

Some will argue that a CBDC is still at the planning stage and likely a long way off. Possibly. And possibly not. If Facebook or some other private tech giant forces the pace, expect the BoE and other central banks to react quickly or lose domestic monetary control. A form of digital currency is already undergoing testing in four cities in China. Chinese plans are known to have been accelerated as a result of pandemic-related mobility restrictions.

Which means that on yet another front the Growth Report has been rendered totally obsolete. Why would we seek independence only to hand over monetary control to a BoE that is planning to extend its influence via a digital currency?

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