Federal Reserve Chairman Jerome Powell takes his seat to speak before a Senate Banking, Housing, and Urban Affairs hearing on “The Semiannual Monetary Policy Report to the Congress” on Capitol Hill in Washington, United States, Dec. July 2021, to testify. REUTERS / Kevin Lamarque
The author is a former chairman of the FDIC and a former deputy secretary of the US Treasury Department.
More and more informed observers are wondering why, after 13+ years, FThe increasingly aggressive monetary policy interventions of the ederal reserve, the advantages stay so lopsided to Mauerstrasset across the main road. The answer is simple: follow the money. Using its traditional instruments, the Fed is pumping money into the financial system in hopes of getting it into the wider economy. But the Fed has no control over where the money goes or to whom financial institutions lend, clearly to the main beneficiaries were investors and the ultra-rich.
Fortunately, new technology in the form of a Central bank digital currency (CBDC) provides the Fed with a mechanism to distribute cash directly to working families. This would mean a profound change in the way the Fed has traditionally responded to economic crises, largely bypassing the financial system and channeling increases in money supply to the people who need it most.
After the 2008-2009 financial crisis, the Fed kept money cheap and plentiful for over a decade, with good intentions to revive the economy from this debacle. But the money didn’t reach consumers, which is why the Fed was never able to meet its inflation target of 2%.
That started to change last year when the government increased budget spending on pandemic relief programs like supplemental unemployment insurance, Economic Impact Payments (EIP), rental subsidies, and others. These programs were largely funded through deficit spending made possible by the Fed’s purchase of massive government debt.
When that trillion in new household spending hit Main Street, voila, consumer prices started to rise (maybe too much). These tax expenditures have been more effective in helping working families. But even these fiscal programs were fraught with unnecessary political scramble, overly complex requirements, and payment delays due to an inefficient and costly payment system for distributing funds.
The story goes on
A better way of getting money to people who need it
CBDC would be a better way.
By using distributed ledger technology, the Fed could bring digital dollars to households quickly and cheaply in times of crisis. Of course, such a system would have to be approved by Congress and only used in difficult economic conditions, possibly triggered by a steep decline in employment or GDP.
The central bank’s digital currency could help the Fed distribute cash to those who need it. Image: Getty
But with such a system of “auto stabilizers” families would not have to wait for the political system to argue over ad hoc aid programs, nor would they suffer the costs and delays associated with our outdated payment system. The Fed could distribute funds directly to household-held digital wallets and / or use regulated digital payment providers to help consumers set up digital wallets and keep their CBDC in custody.
This would also promote financial inclusion. Digital wallets might be more accessible for those with no or limited bank accounts who fear the complexities and fees too often associated with checking accounts. Congress could authorize the Fed to provide budgets with initial “start-up money” as an incentive to start them up.
While payments would be limited to households, indirect benefits would accrue to businesses as they would provide emergency incomes for struggling families to pay rent, buy groceries, and other essential goods and services. By using a Fed-sponsored distributed ledger, the Fed could know the recipient’s identity and track the money to ensure it reaches the intended beneficiaries, providing strong anti-fraud controls.
What is important is that the Fed would no longer try to stimulate the economy by cutting interest rates to incentivize more borrowing. When people lose their jobs and their incomes, they don’t need more debt, they need cash to bridge them. The provision of cash could help wean our economy from using debt to sustain growth and hopefully lead to an eventual normalization of interest rates, ending the economic distortions caused by so many years of extremely low interest rates.
Banking industry advocates like the Bank Policy Institute argue against CBDC because they fear it would disrupt banking by withdrawing money from deposit accounts and into CBDC digital wallets. However, this should not pose a risk, especially if the CBDC amount per household was capped and spent exclusively on government emergency payments. Such a system could indeed prove beneficial to banks as it would reduce the risk of consumer default during severe economic crises. In addition, CBDC could be converted into traditional fiat currency and deposited into bank accounts at any time if the banks offer households sufficiently attractive terms. And, of course, corporations and other institutions would continue to need banks to hold their deposits and serve their needs.
Stablecoins can coexist with CBDC
Another argument that is used both for and against CBDC is that it is privately sponsored. would undermine Stablecoins – a form of cryptocurrency, the value of which is linked to and secured by fiat currency. Some fear that privately sponsored stablecoins could eventually displace central bank money. Therefore, they support CBDC to displace these private initiatives. For the same reason, supporters of private stablecoins argue against a CBDC in the USA
I support properly regulated private stablecoins. (Disclosure, I’m on the board of directors of Paxos, a regulated trust that has one.) But I also think they can coexist with CBDC, especially when the issuance of CBDC is limited to household emergency payments. Our payment system has always relied on a combination of private and Fed sponsored entities. There is no reason to believe that CBDC would kill responsible innovation among private stablecoin issuers. Indeed, parallel private sector efforts to develop stablecoins could help inform and complement the Fed’s use of this technology.
A final argument against CBDC as a monetary instrument is that it could increase the risk of inflation. Of course, the impact on consumer spending would be much more direct than the Fed’s current instruments. But that’s a strength, not a weakness. Given the higher efficiency of CBDC, smaller increases in the money supply would be required to stimulate consumer demand. And should consumer price inflation escalate, CBDC would offer the Fed an elegant solution: pay interest on CBDC to incentivize households to save rather than spend.
It is time to rethink how we use monetary policy to prop up our economy. Providing incentives to borrow with cheap money is inherently unstable. We can see the results: unprecedented levels of government and corporate debt, reckless speculation and valuations across a wide range of assets. We all hope (pray) that the acceleration in consumer price inflation will be temporary. But if the Fed is forced to hike rates to contain it, the impact on corporate and sovereign borrowing costs could be catastrophic, as could the negative impact on asset prices on financial stability.
It is difficult to see how we are going to get out of our current predicament. But it’s easy to see how, in the longer term, technology can provide us with an alternative to low interest rates that can lift our country out of this debt trap. If we want to print money to support our economy, we are printing it for the people. CBDC can show the way.